There are places I’ll remember
All my life, though some have changed
Some forever, not for better
Some have gone and some remain
In My Life – The Beatles (written by John Lennon)
COVID continues to reshape the economy
The United States seems to be getting its second grip on the COVID pandemic, after a surge in cases resulting from reopening the economy. Daily cases have recently declined to about 56,500 from 69,000 just a few weeks ago. In mid-June, just before reopening major portions of the economy, daily cases were averaging 22,000, but jumped almost immediately. Whereas before, only a few major retailers and business were mandating mask usage, now virtually all indoor business that can operate, are requiring customers to wear a mask before entering.
During one of our almost daily conversations, Don Molé, our Senior Economist, pointed out that even before COVID the U.S was a very service-oriented economy. A July 2019 article from Deloitte noted that services accounted for over 68% of America’s GDP in 2018. By sheer numbers it has been the service sector that has been hurt the most with restaurants and bars closing, movie theaters, sporting venues, convention properties and so on. Today’s Employment Situation Report for July showed that of the nearly 1.8 million new jobs created, 1.4 million were in the service sector. Pre-COVID, there were approximately 6 million people unemployed out of a labor force of 164 million. The unemployment rate was 3.6%. For many practical reasons, a healthy economy can never get to 0% unemployment. Companies would never go out of business, they certainly couldn’t expand, and there would be no workers to hire for new startups!
Today, there are 16.3 million unemployed, but the labor force has declined by about 4 million as well. Getting 10 million of the currently unemployed back to work, as well as bringing back the 4 million who left will take some time. While exciting trends like onshoring manufacturing, a surge in homebuilding, and e-commerce, will create new jobs, many of the aforementioned 14 million workers will need further education, apprenticeships and other retraining to become employed again.
1,000,000 on the Dow. I’m calling it right now.
After 35 years as an analyst, investment manager and economist, the same questions come around with a fair degree of regularity. “If they elect “X” as president, do you think we should sell stocks?” “The market is getting ahead of itself, it’s overvalued. Do you think we should sell stocks?” “The forecast for the economy looks pretty bad. Do you think we should sell stocks?” “This time it’s different, we’ve never had to deal with (insert your most memorable crisis here) before. Do you think we should sell stocks?”
When I started my investment career a few years before the Black Monday stock market crash of October 1987, the value of the Dow Jones Industrial Average index had just passed 1,700. Today, 34 years later, the value of the Dow is roughly 27,200. Solving for the compound annual rate of return that gets you from 1,700 to 27,200 over 34 years is 8.5%. My daughter, who is 22, is just starting her professional career. She is also starting her 410(k) with the Dow at 27,200. That got me thinking about where the Dow might be when she retires in another 45 years, give or take. Considering the annual return on the Dow varies widely in any one year, but over the long-term, using the historical rate is just as valid as any other rate of return, we can calculate where the Dow might be when she retires. Therefore, 27,200 compounded at 8.5% for 45 years is 1,068,826. So there you have it. The Dow will cross the 1 million mark sometime in 2065. You heard it here first.
Our frame of reference is ever changing
Another point of interest about the Dow Jones Industrial Average, and the same goes for the Standard & Poor’s 500 stock index, is that the companies that make up index change over time. Of the 30 companies that were in the Dow in 1986, only 7 remain. They are: American Express, Chevron, Exxon, IBM, McDonald’s, Merck and 3M. Venerable names like Bethlehem Steel, Eastman Kodak, International Harvester, Sears and FW Woolworth have been replaced by the likes of Apple, Cisco Systems, Nike, Microsoft and Home Depot. Will any of these companies be around in another 45 years? Who knows, but Bethlehem Steel had been in business for 120 years by 1987 and was bankrupt by 2001. Sears Roebuck was founded in 1893 and International Harvester was incorporated in 1902. If 75 percent of the Dow Jones Industrial Average can turn over in 34 years, it’s a safe bet that many of the companies we know today will be long gone by 2065.
For those of us who can’t wait until 2065, a reminder about asset allocation and time is perhaps in order. After the great stock market crash in 1929, it took 25 years for the Dow to recover to its pre-crash level. In 1987, when the Dow lost over 30% of its value in three months, it took only two years to fully recover. During the Great Financial Crisis of 2007-2009, the Dow went from roughly 14,000 to 7,000 in 18 months. By February of 2013, the Dow was back above 14,000. Finally, during this current pandemic, the Dow fell 37% from 29,500 to approximately 18,500 in a little over 2 months. Today, the index has recovered 80% of its most recent loss to its current level of 27,200. Data from Crandall, Pierce & Company indicate the median correction over more than 100 years has been 12.6% and the median bear market has been 37%. Additionally, the average time it takes for the stock market to recover peak to peak from a correction or bear market is just 1.5 years.
Our advice for investors with a time horizon longer than a minimum of 3-5 years is to retain an appropriate allocation to stocks. While the future is perhaps less certain at the moment, owing to the pandemic and the upcoming election, we remain confident in the current trends of de-globalization and onshoring (more manufacturing jobs), generational demand for housing (Millennials and even some Gen Z), technology advancement coupled with healthcare and increasing public health awareness. We prefer to focus on the segments of the economy that will lead the next wave of growth rather than the segments that will struggle or disappear altogether.
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