The market is at an extreme negative point. The narrative is bumping around from dark pessimism, to tense debates, occasional forecasts of powerful rallies that failed to materialise since the mid-June tentative.
A small sample of this anxious narrative that I followed over the last 12 months is CNBC. Overwhelmingly, most of its programs are obsessed with analysing each word uttered by a Fed board member or its chairman. Parsing ad nauseam words, price movements or statements made by prestigious fund managers, show after show, interview after interview, viewers are left more confused than ever. The stress is palpable even among professional contributors.
Instead of trying to figure out where the good news will come from, let’s look at the big picture. If we assume that in the end all these movements are the result of cause and effect relationships, at an aggregate level over a long period of time they should converge on a historic average, unless a massive meteor hits the planet.
DJIA Historical Growth Rate
I studied DJIA average growth over time since early last century as a general market indicator and I compared the overall average CAGR with the rolling 10yr CAGR. The first data set represents the long term trend which over time becomes less and less volatile. The second data set represents temporary fluctuations, ten year average growth, which gives us an indication of the economic challenges that occur during those periods.
The resulting chart surprised me. I could hardly see the impact of major events such as wars. The Great Depression barely made a dent and WWII had less of an impact compared to the period that followed. It is counterintuitive, but the 70’s clearly had the biggest negative impact on the long term average growth, and it represented the most persistent period of low economic performance.
During those times the volatility might have been extreme, but over a decade, the market always recovered and remarkably ended up adding a small percentage to the all time CAGR, which has been growing from less than 3% in the early 1900s to 5.20% this year when DJIA closed at 29,950 on Friday, 23 September 2022.
The current decade is at a 10yr CAGR of -18.57%. Only one decade in the history of DJIA had a negative 10yr CAGR: the period between 1911 and 1920. Even if the 2021-2030 ends up with a negative CAGR, it must enter a period of strong growth as it cannot stay at -18.57% 10yr CAGR.
The decade long return to growth will not happen in one big rally because DJIA value in 2022 is still above the long term average, which is 27,655 calculated using a 20 year averaging (that takes the volatility out, which corresponds to a 5.20% CAGR).
So if we have a powerful rally over the next 3-6 months that takes us back to 36,388 (the DJIA last closing day of 2021), it would be too far outside the corresponding long term average. The key point here, is that based on historic data, we should have a strong rally within the next 3 months.
Notably, the growth average over the last three decades is -2.09% (including the current decade, which is only two years in).
All this means that we, as investors, should be patient. Holding value stocks over time has a much better risk/reward ratio than trying to find the right trade in the short term.
Assuming the growth rate stalls at 5.20% for the next of the decade (again, unlikely unless the meteor arrives, or the global civilisation suffers a great disruption), DJIA will end 2030 at 44,390. If the trajectory continues at the low speed, 2030 will end at a 5.80% growth rate and DJIA 46,455. However, I believe we enter a period of acceleration which will bump the growth rate up as it happened at the start of the 1980s.
The Workforce and Productivity Problem
The rally that I anticipate will not mark the return to upward trajectory, but rather be a step in a sequence of adjustment moves. One of the key adjustment that must occur before a sustainable trend to higher highs sets in is the change in the workforce structure.
This means a reduction of employment levels followed by skills upgrade and increased employment in the new leading industries. The current level of employment is expensive and unproductive. Companies are still in fear of losing good employees, but inflation and higher costs will force them to adopt efficient technologies and reduce the workforce. This is a temporary set back, as the new industries will need workers with new skills to meet increased future demand for new services and products. This is similar to what happened with the rise of Amazon, Facebook, Google and the likes. AI, robotics, “digital twins”, EV, clean energy and environmental technologies will be the new leading industries.
This is where the focus of investment should be, rather than buying “safe” Apple shares.
In my argument I only made references to DJIA, but this can be extended to other indexes and developed markets. In fact, I expect that growth leaders will emerge from midCap stocks which could originated in US and other countries with a culture of innovation. In other posts I will discuss some of these companies.