Three Things I Think I Think – What In The Hell Is Going On Out There?

Here are some things I think I am thinking about.

1) Has Mr. Market Finally Lost His Mind? It seems that everyone is losing their mind over politics so I’ve been rather amazed that the financial market has held it together this long. That changed a bit in October as the MSCI All World Stock Index took a 12% dive.

Now, what’s interesting about the stock market downturn is that the wheels have been in motion here for almost all of 2018. The MSCI All World Index, the only true measure of “the stock market”, peaked in January. While US stocks continued higher the total world has done rather poorly all year long. So this isn’t really all that new if you’ve been paying attention.

But has the market lost its mind and will it get crazier? Well, no one knows for sure, but there’s a strong argument to be made that the market had lost its mind for 8 years. After all, bear markets are born in bull markets. The way I like to see things, the stock market is an instrument that pays about 7-8% per year in nominal terms and can’t mathematically pay out much more than that over the very long-term. That is, after all, approximately the rate of corporate profits. So, when you go through these long periods of multiple expansion and 10%+ returns you have to wonder – “when is Mr. Market going to give back some of that excess return?” Said differently, a little smoothing in stock market returns in the coming years isn’t really a bad thing. It’s actually Mr. Market adjusting for what had been a period of very high unsustainable returns.

2) Wait a Second, Should we be Begging for a Bear Market? Speaking of bear markets – I posted this chart on Twitter and some people lost their minds over it. What it’s showing is somewhat theoretical, but also practical. Basically, when the stock market falls it generally results in multiple compression and higher expected future returns. So, let’s say you have two investors who earn a 7% annualized return over time, but one investor experiences a big bear market and continues to invest through the bear market when multiples compress. Strangely, that investor does better in the long-term because they invest more money into a higher return generating asset class during the bear market while the other investor invests into an expensive but steady market.