The Dividend Cafe - A Tale of Two Decades

Episode Date: November 17, 2023

Today's Post - https://bahnsen.co/3sAWzr1 For the second time in the last couple of months, I am going to call an audible and not publish a Dividend Cafe on the artificial intelligence moment and its relevance for investors, despite having announced I was doing so the prior week. I have actually been assembling and digesting research on this topic for many months and am quite excited for the final product to appear in Dividend Cafe. But it is too important of a topic and an issue I have worked on now too much to publish prematurely. I was in New York City the first two days of this week, Dallas the next two days, and am in California now. Between a massive amount of meetings, events, portfolio activity, flights, and all the things, I was engulfed in a different topic this week instead of finishing my other piece. This week’s topic is pretty darn important, though. In fact, I believe it serves as the macro story of our moment. It brings in some very important history and how to think about the past in the context of the future (not exactly an old or stale topic for those who remember last Friday), but it also allows us to understand what is going on right now in a broader and more extended sense. I think where interest rates go over the next ten years matters (also a fresh topic on our minds). Still, one could argue that everything going on right now has to do with the cycle we are in, had previously been in, and the question around where we ultimately go. So let’s hang tight on artificial intelligence and investing a little longer because this week, we have to cover a tale of two decades. It will take you ten minutes to really appreciate ten years. Let’s jump into the Dividend Cafe … Links mentioned in this episode: TheDCToday.com DividendCafe.com TheBahnsenGroup.com

Welcome to the Dividend Cafe, weekly market commentary focused on dividends in your portfolio and dividends in your understanding of economic life. Well, hello and welcome to the Dividend Cafe. I am very happy to be back here in Newport Beach getting ready to enjoy Thanksgiving week next week, we will have a Dividend Cafe on Wednesday, as we always do Thanksgiving week, dedicated to some Thanksgiving reflections more than a normal economic commentary. This is the second time now that I have said the week prior, I am doing this Dividend Cafe next week on a full study about artificial intelligence and comparisons to past market moments in technology and what this means for investors. It's something I've been working on now for months. And then I decided to call an audible yet again, because I don't want to publish this edition I've been working on until I feel that it's done. And I't feel it's done. Until I feel it's ready, I don't feel it's ready. This was a pretty insane week. And I really like the message I have for you today. I think it's very appropriate building off what we talked about last week. And yet the

aforementioned topic around artificial intelligence and this AI moment, investor wisdom around all that. It's coming, but we'll wait till the week after Thanksgiving for that, unless I break my promise for the third time, which I don't intend to do. So I want to talk to you right now about the 2010s as a decade and the 2020s as a decade. And I believe that in this contrast lies what is really playing out as perhaps the most important lesson for investors right now. Could be one of those important lessons they'll learn in their lifetime, but it is this needed lesson that is going to get taught one way or the other. And I hope with as little pain as possible for people, but I remain certain that whether it requires little pain or more than little pain, this lesson will be taught. And that is that the 2010s were an exception, not the rule. And I think if people heard that and didn't listen to the rest

or didn't have a full context, they could assume that all I was saying or going to say was, oh, well, the market went up a lot in the 2010s and it's not going to do that anymore. That is not what I'm saying. Now, I could be saying the 2010s went up a lot, but the volatility was just so low and it was so easy and there won't be such an easy period of returns. I'm saying a lot more than that. But let's be clear.

The 2010s had volatility. I mean, we were down almost 20% in the summer of 2011. We were down almost 20% in the fall of 2018. We dropped, I think, 9% in one day in the middle of a day in May of 2010, the flash crash. You had a two-year period, but it doesn't coincide with calendar years, but a kind of middle of 2014 to middle of 2016 that was basically flat, no real good returns, even though 14, 15, and 16 were all up as full calendar years, but a two-year, 24-month period that was dead flat. year, 24 month period, but it was dead flat. So yeah, I mean, maybe I'm stretching a little, but it wasn't totally easy or free of any kind of ride, but every year was up. Now you say, well, 2018 was down, but it was down 4.3%. So I barely even count that. And then that 4.3% was made up in like a few minutes into 2019. I mean, literally by before the end of January, the whopping down 4% of all 2018 had been made back in just days into 2019. The standard deviation, which is the measurement of the variance or the volatility around the

mean, the average return. variance or the volatility around the mean, the average return. I mean, that's a pretty good technical definition, but you can just call it the volatility. The volatility of the return of the S&P 500 was significantly lower than its average in the 2010s. And the return itself was significantly higher. You ended up being close to 14% compounded annual returns with reinvested dividends in the S&P for 10 years. It had averaged about 3% a year less than that for 70 years before that, with a few points more in volatility for the 70 years prior. So it was a significantly better decade with far less year by year volatility and bonds were up each year, averaging 3.65% for the 10 years. The short dated bonds were up every year. Long dated bonds

were up every year, but one corporate bonds are up every year, but one 60, 40 investor was up 9.7% with almost all up years in bonds, almost all up years in stocks. I mean, it doesn't get much better than that, easier than that. And I truly believe we're living through a period now where a lesson is going to be taught about what is normal, what isn't, what was an aberration and what wasn't. And the 2010s were an aberration. And I want to go back in time a little bit, if you don't mind, to the beginning of the 2010s. And I want you to remember something really quite interesting. Where were U.S. household balance sheets coming out of the financial crisis? Tethered, bruised, beaten. Maybe way too nice of a way to say it. Leverage was huge.

Debt was huge. Assets were low. Savings was low. Home prices had fallen. Household balance sheets had nowhere to go but up after a couple years of liquidation. Where was new investment entering 2010? Macroeconomically, new investment was dead. CapEx was dead.

Non-residential fixed investment was zero. Where was growth? It was hyper-muted. We could barely get to 1% real GDP growth coming out of the GFC. We never did get to 2% real GDP growth for that whole decade. We never did get to 2% real GDP growth for that whole decade. You basically were running up the sovereign balance sheet. Debt was skyrocketing at the federal government level.

And wages were not growing, which is really where a lot of the populist angst started to come from, both left-wing and right-wing, both domestic and international populism. Housing was massively, unfathomably oversupplied. There were so many people that bought homes they couldn't afford. You had a lot of people having foreclosures, workouts, sales, and an awful lot more homes on the market than qualified home owners. Significant oversupply coming into the 2010s in housing. Low growth, very high unemployment. It started the decade up around 10 percent, low wage growth, low investment. So just a brutal economic macro backdrop. But you also had a decade of pretty

benign environment geopolitically. What was the major bad incident of the 2010 to 2019 period? 9-11 was in the decade prior. The global financial crisis was in the decade prior. This new decade kicked off with COVID. But 2010 to 2019, you had Brexit. You had the Arab Spring. There are a few things here and there, but it wasn't a decade that had significant global or geopolitical melodrama. It just wasn't. So you had a troubled economic backdrop to enter a decade. And then what about the investment backdrop? I mean, just tell me how it could get better than this to start a decade. P.E. ratios had gone low. They were around 13.

Earnings had gone very low. They were around 60. They would end the decade, the P.E. near 20, and the earnings themselves near 200. So 13x on 60 versus 20x on 200. Those are two pretty good data points to move in the right direction for risk investors. The 10-year had started at 4%. It ended at 1%. Pretty good movement for bond yields, I would say.

You had a pretty negative correlation through most of the decade with stocks and bonds, the way they're supposed to work. You got zigs and zags and a benefit of asset allocation that attracted capital into both major asset classes. You really had a very benign environment for investing macro and a very troubled environment for economic macro. macro and a very troubled environment for economic macro. And then really we entered the new decade and immediately COVID happens. Now, I don't want to do this whole Divin Cafe about COVID because that isn't the defining moment. I think we're now sort of resetting expectations and remembrance

and reality and data points to a pre-COVID world. I think COVID is in the rearview mirror so much so that we can now talk about this in a sense of where I believe we are in the global cycle. We're trying to re-anchor ourselves to not just a pre-COVID reality, but to a pre-GFC reality. Where wages are growing over 4%. There is a lot of talk about a resurgence of investment, business investment, CapEx. Some of it is government subsidized. But my point is there is a lot of discussion about on-shoring, re-shoring, near-shoring.

The 2010s started off heavily favorable to globalization. 2020s start off with deep skepticism about globalization. So you started the decade, let's move from the economic macro to the investing. You started the decade with a 20 times multiple, not a 13 times. You started the decade at over $200 earnings, not $60 earnings. You started the decade at a 1% bond yield that has now come up to four or five, not starting at four or five, coming down to one. Polar opposite decade in the 2020s in the economic macro and in investing macro relative to last decade. The strategic asset allocation decisions of the 2010s,

the total return expectation of the 2010s, the behavioral realities of the 2010s are no more. Now, what is still the same? Muted economic growth, but muted economic growth with some changing paradigms that create changing investment landscape. A different bond yield environment at the moment. Wage growth is better. Household balance sheets that now went from, they basically went from bad to good. Now, perhaps they go from good to bad or good to not as good. So you have a lot of factors that will be different. Does this mean, oh, now this, that last decade was good, this decade is bad. It does not mean that. It means that stocks and bonds are very positively

correlated. Last decade, they were negatively correlated. It means investors are absolutely underweighted to alternatives. And that the expectations of returns, getting 14% per annum in S&P is not going to happen. Getting almost 4% per annum in the bond market is not going to happen for this full decade. What you are probably looking at is a need to have a lower expectation for equity returns, a definite change in expectation of how many years in a decade will be up versus down. You can have a very good decade with six or seven up years and three or four down years instead of 10 up years or what was it 11 out of 12 up years i all i could tell you is that return expectations will be different volatility expectations are different the economic

backdrop and macro from a starting point midpoint and endpoint are and will be different and that the reality of 2010s being an aberration, not the norm, will have to settle in for a lot of investors. And that the bonds and groups approach, principles we believed in well before all this and during and now, cash flow generative investments being a much wiser way to go as risk asset investors, coupling it with assets that are non-correlated to smooth that return, not an entirely 60-40, a stock bond mix where there's high positive correlation. You could end up getting a good return when both are working well together, but you don't get the same smoothness that asset allocation is intended to deliver. And candidly, if that's the case, it makes sense to simply default to the higher return asset class and accept the higher volatility that goes with it if you're not going to get the smoothing effect, the zigzag asset allocation objective that modern portfolio theory has written around.

you know, asset allocation objective that modern portfolio theory has written around. So I believe that the next decade is not going to be the 2010s. And I do not believe that that means this decade is going to be a horrible one. It doesn't mean that we can look at it as the rear view, excuse me, the mirror image, the opposite. It means that prior to the 2010s, you had decades that had some up years and some down years, some good decades, some bad decades. You had volatility that was normal and embedded and inerrant to the asset class in equities that didn't usually call for things like 2017, where you had basically barely any down days. I mean, the worst drawdown being 2.9% all year. You will have a more normalized volatility environment in the years ahead. You will have periods. You know, I got asked by a media outlet this week, what do you make of stocks being up,

excuse me, being down in October, but now being up in November? And I just thought, what an odd question that someone would care what October and November had done differently when if they were to just go back to the October and November of last year and the October and November of the year before, that we have gone actually 24 months and the market hasn't moved. Same place. It's 24 months ago. The S&P in 21 and 22 put together average 5%, not the 14% of last decade.

Now, if you count 2020, where FANG drove a lot, it's up to 9%. So 2020 ended up being a good year for cap-weighted, FANG-dependent. But my point being the returns already are far lower than last decade, and the volatility is already far higher than last decade. And their volatility is already far higher than last decade. And bonds have a negative return on the decade after the 2022 year. I don't expect, you know, I think you're going to have very good returns for bonds going forward until rates end up going low again. But my point is that already we're in a completely different environment and there's a lot of economic macro difference, a lot of investing macro difference.

But this notion of being surprised at up-down moments in a two-year period of flat return, I expect a five-year potential period of flat return or maybe muted returns. I don't mean necessarily the exact same level in five years, but the index could be up on an average basis of 3% to 5% compounded, which would be a third of what it had been last decade. And that would be very normal historically coming off of a bull market like that. Cash flow growth, the compounding of cash flow, and greater weighting to alternatives. I just think this is the norm and the best practice in the decade we're about to face. I'm going to leave it there. I'm so excited to give you some Thanksgiving reflections next Wednesday. I will have a special DC Today that I'll do

from my desert house on Monday. There'll be no DC Today Tuesday, and then we'll close out the holiday week on Wednesday with the Thanksgiving Dividend Cafe. I'm going to leave it there. Thanks for listening. Thanks for watching. And of course, thank you for reading the Dividend Cafe. Have a wonderful weekend. Fight on. Thank you. Past performance is not indicative of current or future performance and is not a guarantee. The investment opportunities referenced herein may not be suitable for all investors. All data and information referenced herein are from sources believed to be reliable. Any opinions, news, research, analyses, prices, or other information contained in this research is provided as general market commentary and does not constitute investment advice. The Bonser Group and Hightower shall not in any way be liable for claims and make no expressed or implied representations or warranties as to the accuracy or completeness Thank you. Such data and information are subject to change without notice. This document was created for informational purposes only. The opinions expressed are solely those of the Bonson Group and do not represent those of Hightower Advisors LLC or any of its affiliates.

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