Posts Tagged ‘Economic crises’

Have you been investing in the stock exchange for 100 years?

November 25th, 2009

How well have stocks done over 109 years?
2008 was a terrible year for investors in stocks. The markets fell so hard and so fast that investors started to doubt the fundamentals of economic theory, including all the accepted principles of long-term investments. Pundits wailed that it was the end of the era of stocks. Were they right? One of the findings by Nobel laureates Daniel Kahneman and Amos Tversky, two psychologists who won the Nobel Prize in 2002 is that people tend to leap to conclusions based on inadequate samples.

Tracking results from 1900
In the case of the stock market, the sample should be taken over as long a period as possible. Three British economists tracked share prices in 17 markets from the start of 1900 to date. The markets they covered constituted 90% of the global trade in stocks, in terms of market capitalization during the last 109 years, 1900 to 2008. The database has full information about every price of every share in all these 17 markets, as well as data on dividends. Using their data, the economists calculated the returns in each of the markets for each of the 109 years, and the returns of a “global index” in each of the 17 markets.

Crisis years
During the last 109 years, there were six shattering, protracted crises. Two of them were in the last decade. Two other crises were world wars. The data shows that the wars’ effect on equities was relatively small compared with the crises of pure economic origin. Moreover, when trouble arrives, different markets fall by different degrees. During the Great Depression from 1929 to 1931, the global index of the 17 markets fell by 54%. But the real drop in the U.S. market was far greater, 79%. More recently, we find the great technology crash of the new millennium. From 2000 to 2003, the global index of stocks fell by 44%, but Germany’s stock exchange fell by 65%.

The current crisis
In the current crisis, the global index of shares fell 54% in real terms. This time the stock market that suffered the most was Ireland’s, which fell 70%. The conclusion is that even when markets seem to be striding in tandem, there are actually great differences among them.

The 109 year picture
Seen over 109 years, the global index of shares generated returns of 5.2% a year, after adjusting for inflation. The previous reading, taken at the end of 2005, found that the global index of shares had returned 5.8% a year. We can generalize and say that over more than 100 years, stocks returned 5% to 6% a year. That’s very high compared with returns on government bonds, which in the last 100 years returned something under 2%.

Another lesson
Another lesson from these figures is that in the investment world, 10 years is not a long time. Even during the 19 years from 1990 to 2008, investors received real returns of 1.8%, which paid them no better than government bonds.

Tags: Economic crises, Investors, Share prices, Stock exchange
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