According to Justin Walters of the research firm Bespoke Investment Group, there have been 283 swings in the Dow of at least 4 percent since 1900. That’s less than 1 percent of the 30,414 trading days. More than a tenth — 10.95 percent — of those have come since October 2007. It’s the same for the 622 days plus or minus 3 percent and 1,735 plus or minus 2 percent days since 1900.
The data confirm what you’re probably feeling: This is nuts. It used to be that swings of 1 percent in equity markets were considered normal levels of volatility. And 2 percent moves were even less common. So if it seems like wild swings in the market are more frequent than ever, that is because they are.
But why all the Sturm und Drang?
A few weeks back, we discussed the reasons traders were rethinking risk. A combination of the slowing economy, a potentially weakening profit picture and European bank problems had finally convinced them that stock prices were too high.
But what investors really need to understand comes down to one word: Trend.
Markets tend to move in long-term cycles. The overall economy oscillates through periods of greater and weaker growth. These are driven by big macro factors that last not for quarters or even years, but decades. These changes lead to significant economic changes and are often the impetus of major expansions. Then, after a decade or two, they fade and are replaced by periods of softer growth, or worse.
Over the past century, numerous “secular” long-term trends have played out. The results have been surprisingly predictable. After the 1929 crash and Great Depression, markets floundered. It took until 1954 — 25 years! — to return to the nominal market highs.
The long economic trend after World War II was very supportive of markets. Millions of servicemen returned home, married, had kids, created the baby boom. We created suburbia, built out the interstate highway system. And after years of footing the wartime effort, the private sector could once again refocus on peacetime production of goods and services. All of this begat a huge expansion, and from 1946-66 we had a 20-year secular run in stock markets with 500 percent in gains.
But all good things must come to an end, and the market topped out in 1966. The Dow hit 1,000 that year, and it would not get above 1,000 on a permanent basis for 16 years — until 1982.
Markets may have been flat over this period, but they lost ground to inflation. In that long flat era, there were shorter term cyclical trends. Over that 16-year secular bear period, we had five major rallies that picked up between 25 to 75 percent, and five major sell-offs, including a 56 percent drop in 1973-74.
These secular cycles continue to play out even today. The beginning of the next major secular bull market was 1982. Driven by technology and finance, 18 years later, the broad indices had gained more than 1,000 percent.
These things always end with the markets getting way ahead of themselves. By 2000, the Nasdaq was over 5,000, the S&P 500 over 1,500, the Dow just under 12,000. Here we are more than a decade later, and all three major indices are below those peaks. And if history holds true, the current secular bear market probably has a few more years to run. It’s a fair guess to say we are in the seventh inning or so.
Where does that leave us? Since the post-crash lows of March 2009, markets have enjoyed a nearly uninterrupted cyclical uptrend. (We did have that little bother with the flash crash in May 2010, but what’s a structural hollowing-out of capital markets among friends?)
These trends are why savvy traders tend to give markets the benefit of the doubt. Experience teaches us that they can run longer and further than we should reasonably expect. That is why the end of any intermediate-term trend can take some time.
The rally that began in March 2009 looks to be running out of steam. Indeed, those gains have been among the best post-crash rallies of the past century. Only the 1932-33 and 1935-37 runs saw stronger rallies over a two-year period. The first saw the Dow Industrials double in two months. It gave back nearly all those gains by March 1933. From that low, the Dow once again doubled by July, only to give back about 26 percent by October 1933. And the next bear market rally — a two-year screamer from March 1935 to March 1937 — saw an astounding 135 percent in gains. That ended in yet another collapse, this time of 56 percent.
Compare that with the current run — the S&P 500 gained 105 percent from March 6, 2009, to May 6 of this year. It is getting harder to believe this run is still intact.
Life — and investing — is all about probabilities. We don’t know what is going to happen in the future — certainly not with any degree of confidence.
What we can surely assess is a range of possibilities as to what might happen. To my eyes, it appears that the cyclical bull run within that broader secular bear has run its course. We are now in the midst of pricing in a slower economy, weaker profits — and lower stock prices.
I”ll say it again: Investors should adjust expectations — and their portfolios — accordingly.
Barry Ritholtz is chief executive of FusionIQ, a quantitative research firm. He is the author of “Bailout Nation” and runs a finance blog, The Big Picture.