• 306 days Will The ECB Continue To Hike Rates?
  • 306 days Forbes: Aramco Remains Largest Company In The Middle East
  • 308 days Caltech Scientists Succesfully Beam Back Solar Power From Space
  • 708 days Could Crypto Overtake Traditional Investment?
  • 713 days Americans Still Quitting Jobs At Record Pace
  • 715 days FinTech Startups Tapping VC Money for ‘Immigrant Banking’
  • 718 days Is The Dollar Too Strong?
  • 718 days Big Tech Disappoints Investors on Earnings Calls
  • 719 days Fear And Celebration On Twitter as Musk Takes The Reins
  • 721 days China Is Quietly Trying To Distance Itself From Russia
  • 721 days Tech and Internet Giants’ Earnings In Focus After Netflix’s Stinker
  • 725 days Crypto Investors Won Big In 2021
  • 725 days The ‘Metaverse’ Economy Could be Worth $13 Trillion By 2030
  • 726 days Food Prices Are Skyrocketing As Putin’s War Persists
  • 728 days Pentagon Resignations Illustrate Our ‘Commercial’ Defense Dilemma
  • 729 days US Banks Shrug off Nearly $15 Billion In Russian Write-Offs
  • 732 days Cannabis Stocks in Holding Pattern Despite Positive Momentum
  • 733 days Is Musk A Bastion Of Free Speech Or Will His Absolutist Stance Backfire?
  • 733 days Two ETFs That Could Hedge Against Extreme Market Volatility
  • 735 days Are NFTs About To Take Over Gaming?
Zombie Foreclosures On The Rise In The U.S.

Zombie Foreclosures On The Rise In The U.S.

During the quarter there were…

How The Ultra-Wealthy Are Using Art To Dodge Taxes

How The Ultra-Wealthy Are Using Art To Dodge Taxes

More freeports open around the…

Another Retail Giant Bites The Dust

Another Retail Giant Bites The Dust

Forever 21 filed for Chapter…

  1. Home
  2. Markets
  3. Other

The Secular Stock Market Trend

Below is an extract from a commentary posted at www.speculative-investor.com on 13th June 2004.

Last year at around this time we asked the question: "Has a bear market started yet?" We thought this was a reasonable question because the NYSE advance-decline line had been trending higher for three years and several important sectors of the market were clearly not in long-term downward trends. And the question seems even more relevant today than it did 12 months ago because the NYSE advance-decline line hit an all-time high early this year, and although the senior stock indices have never looked like challenging their 2000 peaks many sub-indices have moved to all-time highs over the past 12 months. The question really doesn't exist, though, if we make the sensible decision to define the secular trend in terms of valuations rather than prices.

When we try to define secular stock market trends in terms of prices we run up against two problems. First, nominal prices are expressed in terms of a currency that is constantly changing. Second, when a currency depreciates as a result of inflation an effect, at least during the early stages of the inflation, can be higher earnings and higher stock prices.

It is possible, however, to eliminate the 'smoke and mirrors' effect that massive monetary stimulation can cause because over long periods the stock market has always differentiated between real earnings growth and earnings growth caused by inflation. Specifically, investors have historically paid less for earnings that stem from inflation than for earnings that stem from real (productivity-driven) growth. In other words, if earnings are being artificially boosted by currency depreciation then P/E ratios will trend lower.

Further to the above, if we define secular trends in terms of the average P/E ratio, as opposed to the nominal level of a stock-market index, the secular trends will not be obscured by changes in the value of the currency. For example, the below chart shows how long-term trends can appropriately be defined by the trends in the S&P500's P/E ratio.

The logical conclusion is that a secular bear market began following the major peak in the P/E ratio during the first two years of this decade and will, if history is any guide, continue until well into the next decade.

The one problem with defining secular trends in terms of P/E ratios is that the P/E ratio will sometimes fluctuate wildly during any given 1-5 year period. As a result it is really only possible to 'see' the trend in the P/E ratio when looking at very long-term charts, whereas during a normal investment timeframe the secular trend in the P/E ratio might not be evident or even relevant. Fortunately, there is a method of defining the secular trend in the stock market that gets around the problem of nominal prices being substantially altered by changes in the currency AND is of more practical use than the long-term trend in the average P/E ratio. The method, which we've illustrated on the below chart, is to let the trend in the Dow/gold ratio define the secular trend in the stock market.

Note: Gold and the US$ were officially linked prior to 1971 and this resulted in a very short and very sharp downturn in Dow/gold during the early 1930s followed by a very lengthy recovery into 1966, but if the US$ had not been convertible into gold at a fixed rate we suspect that the downward trend in Dow/gold that began in 1929 would have been more gradual and would have bottomed during the first half of the 1940s.

The above chart suggests that a secular bear trend in the stock market is in its early stages in terms of both time and price. In fact, if history is any guide the bear trend will end sometime next decade at a Dow/gold ratio of between 1 and 5. With the ratio presently at 27 this means that it would be reasonable to expect an investment in gold bullion to perform at least 5-times better, and perhaps as much as 27-times better, than an investment in the Dow Industrials Index if both investments were held over the next 10 years.

Back to homepage

Leave a comment

Leave a comment