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I’ve been writing at length on how the US stock market is the king of comebacks:
The US stock market (The S&P 500) has never failed to recover from any downturn. Even during the 1930s, an era in which we experienced the great depression, the market gained back all losses even when the biggest drawdown was 86%.
While we experience high levels of volatility over the short run, the general grind for a stock market investor with a double-decade-plus time horizon is up and to the right.
Below is a chart starting in the 1970s which shows exactly that. Remember – friends don’t let friends use non-logarithmic scales over longer time periods.
We can see that large bear markets, even if you were to invest at the exact top, all recovered in the next 15 years at worst. Additionally, by dollar-cost averaging into the market, you were able to recover far beyond your original cost.
However, when we look at other global markets, this is not the case. Let’s take Japan for example.
Japan has STILL not managed to get back to all-time highs that were seen at the end of the 1980s.
Why is that?
There are so many different global markets out there with a lot of moving pieces, let’s take a look at some of the key differences because global markets go through very different reactions to events.
This week, in <5 minutes, we’ll cover the US stock market vs. Global Markets:
US Stock Market Structure 👉 S&P500, NYSE, NASDAQ, DJIA
The Lost Decades 👉 USA vs. Japan
Pulling Shit Out of the Ground 👉 USA vs. Canada
Do you REALLY own that stock? 👉 USA vs. China
Let’s get started!
1. US Stock Market Structure 👉 S&P500, NYSE, NASDAQ, DJIA
To better understand the indices of different countries, let’s first paint the picture of the major equity exchanges and indices operating in the US.
S&P 500 (S&P)
The S&P500 is what everyone refers to when they say, “just invest in the market”. The ETF most commonly used is . It is not an exact list of the top 500 U.S. companies by market cap because there are other criteria that the index includes.
Still, the S&P 500 index is regarded as one of the best gauges of prominent American equities' performance, and by extension, that of the stock market overall.
The beauty of this is that the S&P is a float-weighted index, meaning it only uses the market capitalization that is available publicly for trade.
New York Stock Exchange (NYSE)
The NYSE, AKA “The Big Board”, is the world’s largest stock exchange with a market cap of $25.2 Trillion as of May 2022.
Unlike the S&P500 which is an index, the NYSE is an exchange where the actual trading takes place. Whenever you see movies of people yelling at each other and waving tickets around – this is where it used to happen.
It is a marketcap weighted “composite” that includes all the stocks listed on the exchange, which means the overall level of the index is more heavily influenced by larger marketcap companies.
It is seen as the center of capitalism where fortunes are made and lost. Live by the sword, die by the sword. By buying stocks here, you are buying a piece of the company and can participate in the upside of the overall outlook of the company.
National Association of Security Dealers Automated Quotations (NASDAQ)
There’s a fun one for a cocktail party – ask someone what NASDAQ stands for. The NASDAQ is seen as the tech-heavy index, home to Apple, Microsoft, Google, Meta, Amazon, and Tesla.
The NASDAQ also has a composite index and is a global electronic marketplace where the actual trading of securities takes place, like the NYSE.
This is an important one because it is at the centre of the recent massive run in a lot of these technology companies that have seen by far the most marketcap gain out of any publicly traded sector in history.
It is also marketcap weighted which caused a couple of problems at the height of the technology run. Back in the middle of 2020, six tech stocks made up over half the value of the “NASDAQ 100.”
Dow Jones Industrial Average (DJIA)
This one is a bit quirkier. The DJIA is a price-weighted index which means stocks with higher prices have a greater weighting in the index, regardless of the marketcap.
At first blush, this sounds pretty stupid because stock splits, dividends, and spin-offs would really mess this up. However, the sum of the component stock prices is divided by a special divisor rather than a simple arithmetic average.
The component stocks of the DJIA are not permanent; new additions and deletions are made from time to time based on certain non-quantitative criteria. Only companies with a substantial growth record and wide investor interest are considered for inclusion. The DJIA is also only composed of 30 companies, so much more narrowed.
Think of this one as more of the beating heart of the “real economy” rather than an index at the whims of the heavily-weighted tech NASDAQ.
Now let’s get into other global indices…
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2. The Lost Decades 👉 USA vs. Japan
The main stock index in Japan is the Nikkei 225. It is a price-weighted index comprised of 225 publicly traded companies and is a price-weighted index (just like the DJIA explained above).
While it pays to be patient in any country-specific index, you would have had to be very patient with the Nikkei, as it still has not recovered from a crash in the 1990s.
That’s decades of lost return. 33 years after the high on the last day of 1989, and you’d still be underwater.
So what happened?
This story is going to sound familiar.
There was an asset price double in Japan from 1986 to 1991 in which the real estate and stock markets inflated at a rapid pace.
The bubble was characterized by a rapid acceleration of asset prices and overheated economic activity, as well as an uncontrolled money supply and credit expansion.
The bubble really started in the real estate market. Commercial land prices rose 303% from 1985 to 1981 while residential and industrial jumped 180% and 162% respectively.
This was due to a flood of interest from the international finance community around opening up in Tokyo and surrounding major cities in Japan. Demand was starting to far outstrip supply, and aided by easy monetary policy, prices kept jumping YoY from 1985 to 1991.
At their peak, prices in central Tokyo were such that the Tokyo Imperial Palace grounds were estimated to be worth more than all the land in the entire state of California.
However, a key component of this asset bubble was that stock trading volumes accounted for by corporations rose from 19% to 39% while cross-ownership rose from 39% to 67%.
What this did was make the public float extremely small, increasing volatility and at the same time, cross-ownership increased correlation when bucketing “equity risk” on the corporation’s balance sheets.
On top of this, many of the corporations had substantial value in owning their own real estate, which further correlated the turn of the real estate market with the overall sell-off in the stock market.
The government then stepped in to continue to provide support for failing banks and unprofitable businesses, making it difficult for more efficient firms to compete, ultimately deteriorating the quality of the balance sheets of all companies across the economy.
Bubbles have burst before – so why no recovery?
A lot of this is due to demographics and competition.
During this outflow of capital, Japan lost a lot of the competitive advantages it had built up in the manufacturing industry, as China, South Korea, and Southeast Asia have become large, less expensive, and capable manufacturers.
Japan’s population is also shrinking and aging, putting a heavy impact on overall GDP growth and productivity as the labour force drastically shrinks.
So the next key indicator to look at is if we see a similar shrinking of the overall economy in the United States after the most recent bubbles have deflated.
The number one question going forward is how will the rubble settle after over-aggressive expansionary fiscal policy in the United States?
Can the US get back to growth if we are indeed tipped into recession (if not already in one)? Time will tell…
Before we continue, let’s check in with our Outrageous Chartered FinMEME Analyst Dr. Patel!
3. Pulling Shit Out of the Ground 👉 USA vs. Canada
Looking to the neighbours to the north, Canada’s major stock exchange is the TSX with over 1500 companies listed on the exchange.
Behind every joke is an ounce of truth and I’ve always joked that Canada is good at two things: Banks (financials) and “pulling shit out of the ground” (mining and energy). While we do have technology companies, they are nowhere near the size and scope of the US, as goes the same with CPG and Retailer based companies.
So the key difference between Canada’s index and the US is the composition of the underlying companies rather than the demographics. Canada also has a very similar central banking policy, so people don’t really bother combing over the notes of Bank of Canada meetings since Canada mostly just copies the United States in this regard.
While underperforming the major US indices for decades, this year is Canada’s year. The index is heavily weighted towards defensives like financials and utilities as well as having exposure to energy names (although nowhere near the weightings of old).
This has led to relative outperformance on a YTD basis…
4. Do you REALLY own that stock? 👉 USA vs. China
While Hong Kong and mainland China have their own exchanges, it is incredibly difficult to access these as an outside investor. Enter the ADR.
An ADR (American Depositary Receipt) is a certificate issued by a U.S. depositary bank representing a specified number of shares—usually one share—of a foreign company's stock. This ADR trades on US stock markets and offers a way for US investors to purchase stock overseas.
However, these are a little bit of smoke and mirrors. As Andreessen brazenly outlined above, there are far too many layers between what you hold and the actual ownership of the underlying security.
There were even scares back about a year ago that ADRs would be completely delisted from American exchanges during the tariff wars all the way through to today.
I believe that buying a stock should represent real ownership in a company with real legal rights (preferentially voting rights). ADRs simply do not do this.
Wrapping up…
Even if we do get a scenario similar to Japan – it is not ALL doom and gloom. While it would have been extremely unfortunate to lump sum your entire savings at the top of the market into Japanese stocks, if you were to dollar-cost average over this period instead, you would still be quite better off than a simple savings account – and this was one of the biggest “dips that kept on dipping” in stock market history…
The takeaway here? Keep calm and dollar-cost average on…
Always bet on the winning horse.
Until next time. Always Yours. Incessantly Chasing ROI,
-Genevieve Roch-Decter, CFA
P.S. Have you checked out our new CARBON newsletter? Read the first issue and subscribe here!
What else we Grittin’ On?
COMING HOME. More and more US companies are onshoring or re-shoring manufacturing. And the trend is accelerating.
MOVE. The bond volatility gauge surged to its highest levels since the Covid crash in March 2020. The 10-year rose back above 3% this week.
GOLD. The price of gold dropped to its lowest in 6 months this week. A surging dollar didn't help.
DEFICIT. This week Germany reported its first monthly trade deficit since 1991. Companies face surging costs for imports and softening demand.
NO DEAL? Elon Musk is trying (again) to walk away from his deal to acquire Twitter. It would be the first time Elon Musk successfully pulls out.
Sources:
https://www.afrugaldoctor.com/home/japans-lost-decades-30-years-of-negative-returns-from-the-nikkei-225
https://www.investopedia.com/ask/answers/050115/what-does-dow-jones-industrial-average-measure.asp
https://en.wikipedia.org/wiki/Japanese_asset_price_bubble
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