Dow 17,000 is on the wrong side of history

This bull market is squarely out of step with economic growth. Stocks are hot only because everything else is so unattractive.

By MSN Money Partner Jul 8, 2014 2:21PM
Credit: © Image Source/Corbis
Caption: Confused man reading newspaperBy David Weidner, MarketWatch

Today's bull market is the fourth biggest since the 1929 crash after stocks have nearly tripled since the financial-crisis low set in early 2009.

But more than any modern bull market, this one stands alone in that it's squarely out of step with economic growth. 

It's being driven higher by just a few wealthy participants and traders who have tacitly, perhaps even unknowingly, agreed to drive prices higher.

The main reason for that is two-fold.

First, low interest rates have made other investments unattractive. The 10-year U.S. Treasury is yielding only 2.62 percent. Inflation is running at an annual rate of 2 percent. That makes corporate bonds, certificates of deposit (which yield less than T-bills) and other fixed-income products largely a losing proposition. Those who have been buying bonds have been doing so for safety.

Second, the investing public isn't really buying stocks. A study by the Pew Research Center, published in May, found stock ownership by households is shrinking, at 45 percent, down from more than 65 percent in 2002. Even with the Dow Jones Industrial Average ($INDU) reaching the 17,000 milestone, investors are leaving stock mutual funds, not buying them.

This series of circumstances is unique. Unlike central bankers' response to the Great Depression, the Federal Reserve has embraced Keynesian economics and flooded the economy with dollars on a scale never seen before. The Fed's balance sheet has more than quadrupled to $4.3 trillion since 2008.

In short, stocks have become more attractive not because of a surging economy or strengthening corporate profits, but because they are the last-place finishers in an ugly contest. That's a significant difference with boom markets of the past.

For instance, between 1935 and 1937, the stock market lagged an economic recovery. U.S. gross domestic product rose 10.8 percent in 1934 and 8.9 percent in 1935. But stocks only took off in that last year, eventually logging a 132 percent increase until 1937. In that last year, economic growth was robust, but it came crashing down in 1938. GDP contracted 3.3 percent, and deflation added to woes, with prices falling 2.8 percent.

The next long-term bull market occurred from 1942 to 1946, when stocks jumped more than 150 percent. That isn't a good comparison, given the nation's involvement in World War II. But there were some robust years economically. And once again, the market moved along with the economy: a 17.7 percent growth rate in 1941, followed by 18.9 percent in 1942, 17 percent in 1943 and 8 percent in 1944. Much of the growth was offset by inflation (9 percent in 1942), but at least investors had a reason to buy.

The first post-war bull market began in 1949 and lasted nearly seven years. Stocks rose more than two-fold as U.S. GDP grew at least 4.1 percent in each of those years, including an 8.7 percent growth rate in 1950. The Dow Jones Industrial Average finally passed its 1920s record high in 1954. Inflation was all over the map. Prices rose 8.7 percent in 1951, but increased at about 1 percent or lower between 1953 and 1956.

The mid-1980s bull market saw stocks, as measured by the Standard & Poor's 500 Index ($INX), double during a five-year period beginning in 1982. Like the current bull market, gains were made to seem bigger after the S&P 500 dropped to only 102.42 in the summer of 1982. But again, there was economic growth that exceeded historical levels -- between 3.5 percent and 7.3 percent during the rally -- and inflation and unemployment fell during that time.

Some describe the period from 1987 to 2002 as a bull market. Technically, it may be. It rose more than 500 percent during that span. But the real bull market of this era occurred between the start of 1995 until early 2000. 

Stocks in the S&P 500 rose 237 percent as GDP increased between 3.8 percent and 4.8 percent annually. Inflation was low, between 1.6 percent and 3 percent. Unemployment fell each year, starting at 5.6 percent and ending at 4 percent. Yes, some of this gain was fueled by unrealistic expectations about dot-com companies, but there was real economic growth underneath it too.

In all of those periods, the market reflected strong economic trends: solid growth, high or strengthening employment and stable inflation. Only the latter is present today. The unemployment rate is improving, but it's still a relatively high 6.1 percent. The best GDP rate produced since the financial crisis was 2.8 percent. That was in 2012, before the current bull market really took off.

Perhaps, as some suggest, this is a new normal. If so, it represents a disconnect between economic reality and market valuation. More likely, it's a warped market distorted by the extraordinary measures used to create an economic lift.

As market indexes touch new highs, investors should ask themselves if they're taking part in a history-making rally, or a rally that is ignoring history.

More from MarketWatch

Pretty much it's just a huge financial bubble that will soon be burst.

Look the US dollar is fast becoming a worthless currency -- soon oil will not be sold in dollars and already China and Russia and Indian and South Africa and Brazil trade in each others currency

Even Japan and the UK have moved away from the dollar as well as France.

And after all the fines we are putting on EU banks how long do you think they will keep trading in dollars. They don't trade in dollars we can not fine them

Jul 8, 2014 3:54PM

"""Unlike central bankers' response to , has embraced Keynesian economics and flooded the economy with dollars on a scale never seen before. """, does this mean Keynesian economics is being shown to "not work"?

Jul 8, 2014 5:53PM
Steve-O.  Like our insightful colleague VOLCKERFAN used to maintain,
Keynesian policy does not work when applied in an asymmetric manner.
It 'works' to the extent that the balancing act of spending into a declining
economy is countered;  that is, during 'good times'  the apparatus / govt
should be promoting investment and savings as a reservoir for the next

Only in this case can Keynesian theory be counted upon to work in
real world applications. I for one, while aggrieved that the private sector
had to be buoyed to a hitherto unseen extent by the use of public monies,
I still believe that doing the opposite of what the Central banks did in
the 30s did indeed act to circumvent a deterioration which would have
been more akin to the Great Depression than any of us would have

As always, hope you had a good Fourth. 

Jul 8, 2014 6:23PM
"Stocks are hot only because everything else is so unattractive."

Guess some folks have never heard of starting your own Business. Sometimes it pays to just invest in Yourself.

"As market indexes touch new highs, investors should ask themselves if they're taking part in a history-making rally, or a rally that is ignoring history."

Well Markets are certainly ignoring the Record Levels of Global Debt and Risk taking. It cannot do that forever. It never has. The only the thing that has been constant over these decades of rising Stock Prices is the also Paramount Rise in Global Debt. Folks expect everyone to keep their Debt in Check but they seem to think it doesn't matter when it relates to Market. It does. You Can't Rob Peter to pay Paul to Infinity.

Jul 9, 2014 12:21AM
"It's being driven higher by just a few wealthy participants and traders who have tacitly, perhaps even unknowingly, agreed to drive prices higher."

And there is an army if snake oil salesmen trying to get you and me to buy them out of this corner they have painted themselves into........ god bless the retirees that are slowly bleeding them dry.
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