We are watching the 100 Foot Wave on Sky at the moment. For those of us of a certain vintage, the first thing you think of when watching a programme about riding the ultimate wave is Bodhi and the 50 year storm in Point Break. That one big event that happens every 50 years.
In the world of investing, it’s the 10 year crash. That 10 year event when markets hit their peak and there is a major crash. Those who have been sitting on the sidelines, can swoop in and buy up shares at low prices. But what if we’ve just had the 10 year crash? What if you’ve missed the last one and have to wait another 10 years for the next one to come along? By the way, I don’t believe that there has to be a crash every 10 years.
I looked at the last crashes, how much markets fell and what help they got from central banks to get out of it.
Using the Vanguard Global Stock Index fund, which started in November 1998, the fund returned 71.25% up to September 2000, when the dotcom bubble burst. We also had the economic impact of the September 11 attacks. The index fell -57.76% from September 2000 to March 2003.
The Federal Reserve’s response was to start cutting interest rates to stimulate the economy. Alan Greenspan oversaw 11 federal rate cuts, bringing it down to 1% in June 2003. Companies were allowed to fail. As most of them were nothing more than companies with a url and no profits, it wasn’t going to bring down the economy.
After hitting the bottom, markets took off again, gaining 96% (16.9% per annum) from March 2003 until July 2007.
Monetary policy of low interest rates resulted in lots of cheap debt. This all caught up with us when poor people defaulted on their expensive, sub prime loans, and liquidity tightened. From July 2007 t0 March 2009, we saw the Global Stock Index fall by -51.47%.
Like the previous crash, the Fed lowered rates again to boost the economy. But it wasn’t enough. Bear Sterns was allowed to go bust, as was Lehman Brothers. Insurance giant AIG was in serious trouble after insuring CDO’s against default. They thought the chances of having to pay out on these AAA rated bonds was low. Except they did default. The problem is, AIG insures all sorts of things and they really are too big to fail. So the government stepped in and bailed them out with the government and Fed pouring in $150 billion to keep AIG afloat.
The Fed also embarked on a programme of bond buying called quantitative easing, pouring billions into the markets. The ECB followed suit a number of years later when they saw that the European economy was struggling to come out of recession.
After hitting the bottom, we saw a period of unprecedented growth, with markets growing 385% (15.47% per annum) from March 2009 to February 2020.
Covid 19 appeared in China in late 2019. It is not the first time that a virus had hit the region. In previous times, it remained isolated to the region, and the western world was not really impacted. This time it was different. In February and March 2020, things started to get serious as the virus spread around the world. People were told not to go into the office and work from home. Lots of other businesses were shut completely. We had never seen the global economy be effectively shut down at the same time.
Markets went into a panic and we saw a fall of -30.11% in just 30 days. To put that into context, it took the market 1 year to fall that far in the dotcom crash and 1 year, 3 months for it to fall that far during the credit crunch.
The difference now is that central banks around the world reacted very quickly. They pumped trillions into the markets to keep companies afloat. Employees who were now out of work were giving subsidy payments to keep them ticking over while they were unable to work. In the US, companies were giving huge government loans that were written off if they didn’t fire anybody during the term.
What would have happened if quantitative easing wasn’t actioned so quickly? Airlines would have gone bust, as would cruise companies and hotel chains. Retail stores, already struggling with the change in how we shop, would have closed. People would have struggled to pay their bills, with an massive increase in defaults for utility companies. People would have defaulted on their mortgages too, leading to more pressure on the capitalisation levels of banks.
But the fact is that this was stopped from happening by central banks and governments. They had learnt their lesson from last time and reacted quickly. Instead of a long and prolonged recession, we had a short shock. Since then, the markets have rebounded 88.92% (46.51% annualised). Everyone has written off that short period when we didn’t know what was going to happen to that money we had saved.
I don’t know when the next crash is going to be. I don’t know what event will cause it. And I don’t know how long it will last. But for those of you who believe there is a crash about every ten years, I wouldn’t be so quick to write March 2020 off.
22 November 2021