December 9, 2005

Excerpts: The Battle For The Soul of Capitalism - Part VIII

By: 800-CEO-READ @ 10:42 PM – Filed under: Management & Workplace Culture

The Great Bear Market

As Sir Isaac Newton warned us, for every action there is an equal and opposite reaction, and the reaction to the stock market boom and the mismanagement of so many of our corporations inevitably followed. The reaction to the Great Bull Market, of course, was the Great Bear Market, one that held us in its throes for two and a half years and from which we still feel the residual effects. From its high in March 2000 to its low in October 2002, the market lost fully one-half of its value, making it, with the Great Crash of 1929–33, one of the two largest drops of
the entire century.

That combination of percentages—a market that rose 100 percent, then tumbled 50 percent—produces a net gain ofzero. Even with the subsequent 50 percent recovery from the low through early 2005, stock prices remained more than 20 percent below the peak, about where they were in 1998. Nonetheless, taking dividends into account, investors who stayed the course during this seven-year period are far better off on balance than those who rushed in later to ride the wave of euphoria, only to experience heavy losses.

In a sense, the Wired forecast was right on the mark. We we removing into a New Era. But, so far at least, the New Era has been the diametrical opposite of its bullish predictions. Rather than a long boom in the stock market, we’ve seen a short bust. Rather than the end of war, the United States is now engaged in three wars, in Iraq, in Afghanistan, and on terrorism. The growth rate in information technology has slowed dramatically. Employment has increased only marginally, and the abatement of poverty is nowhere in view. Rather than the sustained economic growth that Wired anticipated, we’ve had a recession, from which our economy is recovering only fitfully. And, corporate malfeasance has shaken the confidence of investors to the point that the very nature of modern-day capitalism is—quite properly—being challenged. Each of these challenges reverberates across the entire financial services field.

Yet even after the Great Bear Market, the return on stocks for long-term investors has been remarkable. From 1982, when the long bull market began, to early 2005, the U.S. stock market provided a compound growth rate averaging 13 percent per year. Through the miracle of compounding, those who owned stocks in 1982 and still hold them today had multiplied
their capital more than 16 timesover. So for all ofthe stock market’s breathtaking ups and downs, long-term owners who bought and held common stocks have been well compensated for the risks they assumed. For such investors, the coming of the bubble and then its going—the boom and then the bust—simply did not matter. Unfortunately, for far too many others, it was devastating to their wealth.

All that has transpired could be sparingly acknowledged if it weren’t for the fact that there were winners and losers during the mania—and lots of both. Simply put, the winners were those who sold their stocks in the throes of the halcyon era that is now history; and our financial intermediaries,
who prospered beyond the dreams of avarice. The losers were those who bought stocks, and those who paid the high intermediation costs that are part and parcel of participating in the stock market.

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