The Dividend Cafe - History Has Spoken

Episode Date: October 7, 2022

I wouldn’t say that I like this, but I would say that I understand it. But last week’s Dividend Cafe was, in just a few days, the most widely read Dividend Cafe I have ever written. I hope that is because clients and readers flocked to the philosophical takeaways of a deeper reflection on bear markets like the one we are in now. But I know that the ratings of financial TV networks skyrocket higher in bad times and that it has a lot more to do with the reality of human nature than anything else. Fear gets clicks and views. I don’t do fearmongering. My Dividend Cafe last week was actually the opposite of fearmongering. I sought to present the highly rational case for a real glory in the aftermath of bear markets for investors who behave well. Nevertheless, I can understand that the general interest in the topic is largely related to the fear and emotion that goes with the uncertainty of the moment. This week I am keeping the topic alive, partially because the current bear market did not end in the last five days but also because there is more to be said about the history of all this and the future. And I believe you will find both illuminating in the uncertainty of the moment. So let’s jump into the Dividend Cafe. Links mentioned in this episode: 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. Hello and welcome to another edition of the Dividend Cafe. I am your host, David Bonson. And we are now one week into the month of October and the fourth and final quarter of 2022. And, uh, I'm recording in the middle of the day Friday. So I can't tell you how the week will end. We're selling off quite a bit here on Friday, but we were up massively on Monday and Tuesday. So I most certainly think we're going to end up the week positive, but, uh, having cut into what that big gain was earlier. But as I'm about to explain, it is all irrelevant. It is all moot because big days up and big days down and zigging and

zagging are going to be part of our story here for a little while. I had wanted to kind of move on to a different topic. There's a whole lot of things I want to be saying about the Fed right now. And I also have a plan for a Dividend Cafe devoted to the subject of the so-called wage inflation spiral dynamic. But as fun and enticing and exciting as those topics sound and will be, I wanted to talk a bit more about the reality of bear markets. And last week's Dividend Cafe was titled The Glory of Bear Markets. And in just several days, it became the most trafficked, seen, read Dividend Cafe I've ever written. And I'm glad in the sense that I think there was a message in that Dividend Cafe that I want people to have read. But I also know and recognize that a lot of that may be not because there was such an

insatiable appetite for my words of wisdom, but rather that these are tumultuous times and that just like the financial TV stations see their ratings go way up during bad markets. I think there's just a broader interest in some of these things. Bad markets generate clicks and views and ratings and things like that. And it has to do with the nature of humanity and our relationship to fear. It's reasonably understandable. But my view is that I kind of have a desire in Dividend Cafe to use that reality human nature to provide wisdom, to provide guidance, to provide truth. And so if there's going to be a lot more traffic in bear markets than good markets, hopefully an understanding of bear markets will be part of that truth. One of the things I want to say today has to do with this notion of an easy stock market that we had been in.

There's a lot of charts, not a lot, but there's some helpful charts, there's some good charts in the DividendCafe.com that I want you to read. dividendcafe.com that I want you to read. But if we do a little historical analysis, and you talk about bear markets, I talk about how easy it was to make money from 2009 to 2021 because the stock market went up 12 out of 13 years. And the one year it was negative was down a whopping 5%. So calendar year 09 to 21, it just simply was a period of calendar year returns being quite robust. Over 16% annualized returns on a per year basis during that period of time. And yet, when you look through that period, a couple of statistical facts, and you know, I kind of know all these specifics in the back of my hand, so I'll put the notes down after to just unpack it. bear markets, one that we're in right now and one that we were in in the moment of COVID that lasted a whopping 30 days. There were ample times that the market was down somewhere between

2% and 5% and even four times that it was down 10%. So the truth be told, there was plenty of volatility in that period entry year, but it was just an overall really healthy period for markets. But if you go back further to 2000, 2009, so we just go back to the turn of the century. This idea that this has been an easy period of time, there's a lot of counterfactuals to that story. period of time, there's a lot of counterfactuals to that story. And so just to give the data out of the way and then walk through numbers, you're still up 9.1% per year. $1 has turned into $5 after 22 years of compounding in the S&P. And yet there were, are you ready for this? I'll just go straight to the summary here. I think this is unbelievable. Two times in the first 10 years of this decade that the market got cut in half. There have been six times so far this century that the market has been down between 10 and 20%. percent. Two bear markets in the last 30 months, as I've already mentioned. Four bear markets since the 21st century began. We only had two bear markets from all of 1977 to 1999. Now in the 90s, in 1990 and again in 98, there were two periods we got really close. But my point is only two technical bear markets in 22 years, and we've now had four, even though the performance on the way has been so solid. The thing I guess I'd say to you is it was a volatile ride in the 70s, 80s, 90s, and there was a very good result when all is said and done.

And it's been a volatile ride in this century, even though it's been a very good result. Generally speaking, it's true. It was a very bad first decade and a very good second decade, but there's more to it than that. In between the down 50 and the down 50, and I'm rounding up to make the point, in the first decade, the bear market that the decade started with and the bear market, great financial crisis, the decade ended with, there was 100% rally in between. So volatility is nothing new. And I would just say that when you look at the numbers, you should remember that volatility, corrections, downside is the norm. But I want to go back to a period, there's a lot of people listening that were invested in the first decade of the 2000s. And there's a lot of people that were invested in

the 80s, the 70s, the 90s. But there's a lot more people that have been invested only in the last 12 years and may not have been in some portion further back. So I think we're speaking to the greatest number of people when we talk about the last 12 years. There's this thing we call almost bear markets, you know, because if you're going to say 20% is a bear market, then it's really silly to treat 19.8% or 19.4% like it wasn't almost a bear market, but in the sense that it wasn't 20, it wasn't 20. And we had two of those in the last 10 years as well. In 2011, in one summer, the market dropped 19.4%. We had a European crisis. We had a. debt downgrade. And it lasted for three months and it was 19.5%. And yet the market ended up that year up and it rallied violently in the fourth quarter of that year. By the way,

the year earlier in the kind of early summer of 2010, we dropped 14.7%. So it was almost 15% 14.7%. So it was almost 15% around the Greek debt default issues. We were still in very much a kind of second dip recession fear in 2010 and 2011 because we were so close to the recessionary recovery in 2009. And at that point, we were building up a large dependence upon monetary policy to kind of medicate the patient. And we did QE1 in 2009, we did QE2 in 2010, and then we began a QE3 in 2012-13 that lasted through 2014. And so you had a significant amount of financial loosening, but you had really significant market volatility on the way. And then again, at the end of 2015 into 2016, you had another about 15% drawdown in the market, mostly on China fears, China economic slowdown,

global contagion risk, a significant decrease in foreign exchange reserves out of China. And these are all experiences that we were managing money through that many of you listening remember quite well. And at the point we were going through it, it felt horrific. Now, look, the 15 in 2010, the 15 in 2015, 16, the 19.4 in 2011, and even the 19.8 in the fourth quarter of 2018. None of those technically got to where we are now. The S&P is now down about 25. The NASDAQ is down about 35.

This is a broad bear market that has now worsened. It's now been going on for nine months, 10 months. It's a longer period of time than some of those. That fourth quarter, 2018, we went down 19.8. I remember it as the Christmas Eve from hell when the markets were just utterly collapsing in a half day, day before Christmas. You had a lot of these things going on. But then the Fed reversed policy violently and unexpectedly in the very early part of 2019. And it kicked off one of the great bull market years of all time. Both 2017 and 19 were huge years to the upside. Right now, as you're going through the moment, you're reading

DC Today every day, you're listening to the podcast, God forbid, you're even watching a lot of financial news or reading the newspaper. The fact of the matter is you are seeing and experiencing and feeling day-to-day volatility that feels abnormal, feels shocking. And it isn't. It is highly normal. And yet that particular period, this 2009 to 2020 period, you had a lot of volatility in the midst of what overall just seemed like quite impressive results, 16% compounding. And in the prior period, you had two vicious bear markets, and it wasn't a good result. If you put all your money in the market in the early part of 2000 and woke up at the end of the decade, you had a flat market, a lost decade. So I guess my suggestion is that we

understand what history has to say about this. You can get a 9% return in 22 years in the market despite four bear markets, not one, not two, four bear markets, six periods of significant market downside and still achieve a massive return. 16% in 12 years, not over 9% in 22 years. The reality is that for the compounder of capital, we alleviate these things very mechanically through market mechanisms, the reinvestment of profits that are distributed to us in the form of dividends. We mitigate this risk for withdrawers of capital by really allowing people to maintain a growing withdrawal rate from their portfolio without eroding the principle that is affected by natural, organic, expected volatility. The 2% to 5% periods of time when people complain about markets bother me to no end because

they are so inevitable, they are so benign, they are so meaningless, and they're so mathematically inconsequential compared to real bear markets. Real bear markets make a mockery of complaining about 2% to 5% down volatility, because now you're talking about real money. And by the way, based on the timing, if not properly diversified or not properly invested, the S&P is diversified, but I don't think it's proper investment because of the structural flaws with index investing. But for dividend growth investors, the bear markets, as I talked about last week,

and the Gloria bear markets, it's a very great opportunity. From a purely investment standpoint, not emotionally, it's a wonderful thing. But when you look at the NASDAQ, I find this statistic absolutely staggering. I don't think it can be said enough. The NASDAQ is up 3.7% per year for 22 years. Now, there is total cherry pick timing here. You're talking about going right at the beginning of March 2000, which preceded a huge Nasdaq decline that lasted a long time. And now you're talking about right now the troughs here that were in this big 30 plus percent bear market the Nasdaq finds itself in. So I'm starting and ending at pretty ugly periods of time, starting high and ending low. But my point is, this is real life, though.

I didn't make it up. This is actual math. There are people who got invested at that time. There are people that would be, based on all the periods of 15% to 20% returns one could get over multi-year cycles in the NASDAQ, year cycles in the NASDAQ, to find out that you've averaged over 22 years, three and a half percent, which is less right now than the yield on a treasury bill, it's unbelievable. It behooves people to be properly invested through periods of time, like not all focused in the NASDAQ. But I do want to point something out, that that percentage return of the NASDAQ did not come because technology underwhelmed. It did not come because the technology sector failed to deliver. You're talking about a huge

outperformance in what technology has delivered in society. The capabilities in mobile computing, in cloud computing, in e-commerce, the reality is all these things have over-delivered, and the returns in that 22-year period are atrocious. And the reason being a lack of proper diversification and a lack of valuation sensitivity embedded in NASDAQ index investing. But what about the broader S&P? Still quite good returns, but volatility that's come with it. And this is kind of, when you get through the trip down memory lane of this, what the point is I'm trying to make, that you had a lot of event-driven catalyst. And here we find ourselves right now with a particular catalyst to the volatility that is the Fed and the knock-on effect from what the Fed is doing.

Now, I believe that there's even more to what's going on right now I'm going to talk about and more bad news that could come. What other catalysts we're not necessarily expecting. Everybody's obsessed right now on the notion of the Fed maybe getting rates to 4%, 4.5%. Are they going to raise by 50 or 75 basis points? And the thing I guess I would say to you is, at a larger scale, we're dealing with a dollar liquidity matter. At a larger scale, we're dealing with a dollar liquidity matter.

The Fed is removing dollars from the system in a meaningful way at a time where dollars are desperately needed in the global economic system. And bond yields going higher, dollar rallying higher, puts downward pressure on corporate profits for multinational companies, and it puts significant downward pressure on the economic health of developed and emerging economies. It raises the stakes in a world that is riddled with excessive indebtedness. You can get away with your excessive indebtedness in a period where dollars are flowing, especially dollar-denominated debt, and interest rates and costs of borrowing are very low, but the stakes get much higher when those conditions reverse as they are now. So I think it's perfectly comfortable to say that we are going to have to see some indication of reversal. The problem is that markets will move much quicker than we can know and see the final results of a reversal of greater dollar liquidity conditions, of decreased bond yields, that there will just simply need to be some sign of a Fed movement,

some sign of a Fed movement, of a Fed reversal of intent. And I don't know, and I honestly don't really care that much if it comes in one month or one year. There's a lot of opinions out there I disagree with about what will happen, but I'm not going to make a prediction because I don't want to be clown myself with a false prediction. And I don't want to jeopardize client capital by acting on something that is inherently unknowable. The only people that are going to render a prediction on that are people who are guessing and then are hoping to get lucky. That's it. No one has any way of knowing exactly how that stuff will play out. This is nothing new. This is nothing insulting to the bears of today the perma bears of today are no worse than the perma bears of any generation they're all charlatans they're all frauds um they have no skin in the game and yet you're just going to find bears right every now and then

it's the way these things go much like the broken clock cliche but in case, it's a bit important because you will right now see people banging the drums of this time is different. And part of it is that, you know, 25% is worse than 19.8 and nine months is longer than 90 days. So you get a longer and deeper bear market, which is by the very testimony of history, I put all the chart of all these bear markets abundantly common, but it hasn't been as common lately. We've had deeper but shorter bear markets that have maybe desensitized us to some of these things. And so you're going to likely hear in the days, weeks, months, quarters to come some

super dumb things, dangerous things. And yet I want to close with a very important statistical reminder of what's at stake. 1961 S&P down 28, 1968 bear market down 36, the 73, 74 bear market down 48, the early 80s double dip recession bear market down 27, the crash of 87, we all know market was down 33 at one point, the big drawdown from March of 2000, October of 2002 market down 50. The great financial crisis, market down 57. The COVID moment, market down 34. The one we're in now, market down 25. One year, three years, five years, 10 years later, in every one of those periods, markets were higher. One year, three year, five year, seven year later, 10 year later. Usually, you know,

10 years on about like doubling, tripling, things like that. Huge performance. But one year later, the average return after these bears has been up 21%. Now, part of that presupposes, you know, the bears ending and we don't. So the fact that we're sitting in it right now, we don't have a way to prophesy what happens a year later. My point is out of that unknowability and knowing where these things end up going, I would be incredibly careful about the upside risk of moving things. You see markets down 600 points a day this week,

down 300 a day, but up 800, up 700 other days. The zigging and the zagging is going to continue. And I believe that it is really important for us to buckle up for that ride. If you're able to get into the psychology and mentality of what I preached last week, I recommend it, which has been very excited for the fact that you're deploying new money if you're deploying new money. And even if you're not deploying new money, that you are reinvesting dividends at lower prices because that is greatly enhancing your expected rate of return. For diversified investors practicing asset allocation, look, we have a better expected rate of return for bonds now than we've had my entire career. That when you look at these

high rates in both the short and mid level of the yield curve, we at least now, even though in this very moment, stocks and bonds have gone down together, on a go forward, that's impossible. You now get a reverse correlation effect. At some point into the future, the normalcy, the mean reversion into stocks and bonds diversifying one another comes back as a result of us getting so far off the zero bound. That is a good thing. That is not a bad thing. So I think the Fed is going to have to do something that generates the bear market ending. But I think that the market will respond sooner. Along the way, dollar liquidity issues, you could get worse earnings expectations, maybe bond yields go even higher.

But at some point when that reversal comes, it will be violent. And we then can say, oh, well, we'll go back to the world we were in before. But here's the thing. We're in the world we were in before. A world of up and down volatility, unpredictability, a world of various dimensions of instability, largely exacerbated by the reality of heavy monetary policy intervention. That is the world we're in. That's the world we've been in. And sometimes it's cut in a way that we liked, and sometimes it's cut in a way that we didn't like. But it isn't new. And yeah, 25% may be different than 15, and 19 may have been different than 22. And you have different periods of time and periods of depth in these cycles. But none of this is new.

None of it's even a little bit new. So I am prepared for even in the good times, even in the bull market, even in the inevitable recovery for a longstanding condition of monetary instability. for a longstanding condition of monetary instability. And in a bad time and in a good time, it forces me to favor and bias quality, to favor and bias the things that I think are truly investable and non-speculative. And I think that the day-to-day pricing is irrelevant. The reality of bear markets, properly understood by history, informs the opportunity into the future. And I got to talk about this a lot because these are times that people are listening and these are times people care. And I genuinely have a significant level of empathy for those that feel distraught at this time. But people's financial goals in a properly constructed portfolio are not jeopardized.

But people's financial goals in a properly constructed portfolio are not jeopardized. Otherwise, we would have been living in that jeopardy through this longstanding practice of bear markets, of corrections, of volatility, of policy instability. This is our story. We're sticking to it. We're going to continue trying to provide guidance, care, empathy, direction, opportunity, and portfolio wisdom as we go. It's what we do. Reach out with any questions, any time. Do not hesitate to dig in deeper at a macro level or micro in your portfolio and abandon this notion that, gosh, if only we can get some bad news, then we'll get good news because it'll cause the Fed

to do this or that. This comes down to financial conditions. There is a point at which it's reversing. And I love all my friends who believe everything the Fed's saying. But no, I think that there's a very complex, nuanced reality in this, and no one can predict with any surety what and when and how and why it'll happen. But I do know what to do about it in the meantime. That's the part I care about. And hopefully we have the discipline to do just that. Hopefully you have the discipline to do just that. But we will be trustworthy through each step of the way. And in exchange, ask for your trust if you're a client of our firm. Thanks for listening to and watching the Dividend Cafe. We'll be back with a legacy

edition DC Today on Monday, long form written. Monday, by the way, is Columbus Day. The stock market is open. The banks and bond market are closed. I'll add a few comments of yearly reminder of how incredibly insane I think that is in D.C. today. But in the meantime, reach out with questions on this message and have yourself a wonderful weekend. And may USC beat up Washington State. The Bonson Group is a group of investment professionals registered with Hightower Securities LLC, member FINRA and SIPC, and with Hightower Advisors LLC, a registered investment advisor with the SEC. Securities are offered through Hightower Securities LLC. Advisory services are offered through Hightower Advisors LLC. This is not an offer to buy or sell securities. No investment process is free of risk.

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