History tells us that March 2009 marked a buying opportunity
Only 12 weeks ago I argued here that, when it comes to stock market performance, history is a better guide to what's next, rather than current economic conditions, unemployment or gloomy pessimists.
A fortnight later, markets rose sharply. Since then, the FTSE 100 Index is up 24pc, the Dow Jones Index up 26pc and, remarkably, US financials are up 50pc.
This recovery has not impressed pessimists. Take, for example, this summary of US financial woes in the Peking Review: "Throughout the United States, from New York to Los Angeles, from the auto city of Detroit to the steel city of Pittsburg, the picture is one of declining production, depressed markets, sharply rising unemployment, chaotic money markets and slumping stock exchanges. The country is in the grip of a deepening economic crisis, the worst since the Second World War."
Sums it up doesn't it? Or does it? The extract was printed on February 7 – 1975.
History tells us that when sentiment is mired in despondency, equities are shunned and mountains of cash hoarded. And history also tells us that at points of maximum despondency, elements are in place for contrarian buy signals. Levels of cash on the sidelines from experienced investors are significant.
A US asset allocation survey in early March showed that experienced investors held 46pc in cash – a record. The last two occasions when deposits were almost as high – 38pc in 1991 and 39pc in 2002 – were the previous two best occasions to have bought equities since November 1987.
Pessimists, however, will argue that studying the past 20-odd years is too short for accurate comparison. So let's take 40. Even they must concede there is a correlation over time between levels of extreme pessimism or optimism and future movements of stock markets. History shows the more extreme the pessimism, the more bullish the buying signal, and vice versa.
Over the past 40 years, the sole occasion when extreme pessimism was as high as it was in early March 2009, was December 1974. That proved to be a significant buying opportunity despite the horrendous economic conditions in Britain and high levels of pessimism. Over the following 12 months the UK stock market rose 149pc, including reinvested income.
But this evidence may not be enough for cynical experts or confused investors. They'll argue it doesn't cover the Depression years of the Thirties. So let's go back 200 years. We can study the performance of the Standard & Poor's (S&P) 500 Index in the US, comparing it with two valuable sentiment and rate-of-change indicators.
This highlights four major financial crises coinciding with maximum extreme pessimism among experts and investors. The first three were in 1807, 1857 and 1932. The fourth? March 2009. Each crisis proved a buying opportunity for long-term equity investors.
Here's another statistic also covering the past 200 years. US analysts Hays Advisory published a chart showing US stock market rolling 10-year average total returns from 1810 to the end of last year. Findings show four previous occasions when the rolling 10-year returns were close to, or below zero, as they are today. On each occasion, the following decade saw total returns from stock market investments close to 20pc per annum.
This time it's different, isn't it? I'm glad to say history shows it never is different. Research by US analysts Ned Davis Research comparing similar periods of heavily falling stock markets in severe economic conditions predicted the period from October to February would represent a stock market bottoming, followed by a sharp increase. They believe the recession end will be sooner than the majority expect, and as a consequence their prediction is a continuing global bull market rally.
By nature, analysts are not optimists. They're cold fish, unemotional, so they don't get carried away on waves of euphoria or despondency. They stick to numbers.
And the numbers are reassuring. In every previous bear market, in the final bottoming phase, some sectors always outperform as others tank. After the stock market bottoms, sector performance dramatically swaps places. And that's exactly what's happened in the past 12 weeks.
I appreciate there's still economic uncertainty, job losses and worried business people. But stock markets lead, not follow. Economic indicators suggest blue skies ahead. Don't stay in the cold.