What’s behind the sharemarket correction: Kohler


It’s the 80th anniversary of the Great Crash of 1929 and the market’s having a nice correction to mark the occasion.

On October 28th, 1929, the Dow dropped 12 per cent and then another 11 per cent on the 29th. Three weeks later it was down 35 per cent. 

And then by April the following year it had got almost all of the October crash back with a rally of 48 per cent.

At the end of 1930 the Great Depression began for quite different reasons. JK Galbraith is his book The Great Crash of 1929 puts the depression (not the crash) down to five things: bad distribution of income, bad corporate structure, bad banking structure, the dubious state of the foreign balance, and the poor state of economic intelligence.

Market historian, Richard Sylla of New York University, quoted in the Wall Street Journal, says the Great Crash of October 1929 “had almost nothing to do with” the bank failures that caused the Great Depression a year later.

Sylla went on: “What’s interesting from the perspective of 2009 is that from September 12, 2008, the Friday before Lehman, to the low of March 9, 2009, the Dow lost 44 per cent. The Great Crash of 2008-09 was actually a greater crash than the Great Crash of 1929. And half a year after the crash lows of last March, the Dow again is up about 50 per cent, as it was half a year after October 1929.”

Yes, but the market didn’t peak on September 12, 2008: this is now two years after the peak and one year after the danger of another Great Depression was actually averted by the improved state of “economic intelligence” (that is, but fiscal and monetary stimulus). History has not, and won’t, repeat.

Analysts are casting about for reasons why the market is correcting at the moment: it’s the dollar, it’s last night’s new home sales data, it’s the rise in volatility, it’s the disappointing profits.

Actually it’s probably more to do with another quote from Galbraith’s book, referring to the economy but perhaps equally applicable to the market: “The notion that the economy requires occasional rest and resuscitation has a measure of plausibility and also a marked viability. During the summer of 1954 a professional economist on President Eisenhower’s personal staff explained the then current recession by saying the economy was enjoying a brief (and presumably well-merited) rest after the exceptional exertions of preceding years.”

The rally from the lows of early March actually consists of two rallies of equal duration and equal stature – just over three months and 30 per cent each. In between them there was a month-long, 8.3 per cent correction from June 12 to July 13, which, it must be said, was barely noticed.

This correction so far is 4.3 per cent on the Australian All Ords, and 5.3 per cent on the S&P 500 after this morning’s 2 per cent crunch.

Dave Rosenberg of Gluskin Sheff, who writes the amusing Breakfast with Dave newsletter, wrote recently: “If the S&P 500 reversed today at 1100, and the technical investors are inclined to sell, the fundamental investors might not show up on the buy side until 750 or 800. Maybe (the public) fills the demand void between trend and value players, but not this time. The public seems to be AWOL.”

Dave’s been grumbling about this rally over six months of breakfasts, so if the S&P does hit 750 he’ll presumably be a happy man and tell his clients to start buying.

This morning’s breakfast discusses Robert Shiller’s impressive price earnings ratio series, based on 10-year average earnings going back to 1881. The long-term average Shiller P/E is 16 times; it’s currently at 20 times.

This is not as overvalued as previous peaks (45 in 2000, 32 in 1929), “but”, says Rosenberg, “it’s interesting to know that when we usually see 20x, it’s not at the end of a recession but five years into an economic expansion”.

Which doesn’t tell us anything at all, of course. The P/E might now be on the way up, or on the way down. On one view the US bear market has been going for nine and a half years, since the March 2000 peak.

According to Shiller’s data, the P/E always gets back to 10x after a peak – not just sometimes, but always – but don’t forget a P/E adjustment can occur through profits growing, it doesn’t have to involve share prices falling.

Bets have now been placed on 2010 and punters are now sitting back to watch the race.


This article first appeared on Business Spectator.


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