“Kee” Points with Jim Kee, Ph.D.

  • Reiterations
  • Global Investment Facts


We have seen a pretty big increase in stock market volatility this year, which to me feels a little more normal than the narrow, upward trend that characterized a lot of 2017. Trade concerns (i.e. are we “warring” or “negotiating”) probably explain most of last week’s six percent sell-off. As a media friend of mine put it, President Trump is just too much of a wild-card to not expect a continuation of the intersection between Washington and Wall Street (i.e. Trump spooking or sparking markets). I know the following points are redundant for Kee Points readers, but they are worth repeating: (1) Pull-backs and corrections (and recessions and bear markets) are “expected but not predictable”; (2) Being in the market is necessary in order to benefit from the handful of up days each year that account for a lot of the market’s long-term compounded gains; (3) Those big days (like Monday) tend to occur during choppy and unsettling times; (4) Volatile markets can create opportunity if they result in mispriced assets, but they tend to punish marketing-timing activity (i.e. getting in and out of the market). I think the last two years have probably demonstrated that last point as well as any two years in my career. Don’t let the media move your investment horizon from multi-year to day-to-day.

Global Investment Facts

Speaking of investment time horizons, last week I received the 2018 edition of the Global Investment Returns Yearbook, produced by Elroy Dimson and published by Credit Suisse. Most financial economists and strategists consider reading this annual update part of their own due-diligence, myself included. The Yearbook looks at the long-run performance and trends of stocks, bonds, Treasury bills (cash), inflation, and currencies. And by long-run I mean 118 years! That’s what makes it unique. “The immense value of the Yearbook,” says its authors, “is that it helps separate fact from fiction” for investors. With that, I’ll bullet-point a few items I thought might be of most interest to Kee Points readers (direct statements from the Yearbook are in quotes):

  • The Chicago Board Options Exchange (CBOE) Volatility Index (VIX) hit an all-time low in November. That’s what I mean when I say current, higher volatility feels a little more normal!
  • “Abnormal volatility episodes (high and low) tend to “revert rapidly back to ‘normal’ volatility and have little predictive ability for future market returns.” Keep that in mind when the financial press hypes volatility numbers.
  • Over the 118 years, equities (stocks) returned 9.6% per year, bonds 4.9%, T-bills (cash) 3.7%, and inflation averaged 2.9%. 
  • The authors refer to the additional return from owning equities (risky) over Treasury bills (low risk) as the equity risk premium (ERP), which averaged 7.5% over the period.
  • Variation in the ERP is huge, with the lowest being -45% in 1931 (stocks down -44.3%, T-bills +1.1%), and the highest being +57% 1933 (stocks +57%; T-bills +.3%).
  • World Wars were less damaging to world equities than peacetime bear markets, like the 1929-31 Wall Street Crash, 1973-75 Oil shock/recession, the 2000-02 Internet Bust, and the 2008 Crash (those were the four worst).
  • Two of the four worst bear markets in history occurred over the last 17 years. Surely (maybe? hopefully?) the next 17 will be smoother!
  • The authors feel that equities offer the highest expected returns going forward, though somewhat lower than those experienced over the past 118 years.
  • Equity returns are lower in the years following low real interest rates (interest rate minus inflation rate), like today. But prior low real rate periods were high inflation periods, unlike today.
  • Long-term data supports value stocks over growth stocks, but, “sadly, the Yearbook shows it is hard to predict or time.” That’s why we own both at STMM.
  • The US accounts for 51% of total world equity market value; Japan is in second at 8.6%, with France, Germany, China, Canada, and Switzerland next at around 3% each. Australia (2.5%) is ninth.
  • At its peak in 1990, Japan was 45% of the world index versus 30% for the US at the time. Don’t worry though, the US is not the next Japan! (something I’ve discussed before)
  • Before the 1980s, “emerging economies” were referred to as “less developed.” [note: I have seen old economic journals contain the expression “backwater economies”]
  • Different groups use different criteria to define an emerging market. MSCI (Morgan Stanley Capital Index) uses 23 variables, FTSE (Financial Times Stock Exchange) uses 13, and Standard & Poor’s (S&P) uses 10.
  • The authors prefer a “GDP per Capita Rule” of less than $25,000 (per person) as their criteria for defining emerging versus developed market, and I am a fan of that methodology.
  • Some countries, like China, Russia, and South Africa, have been emerging for 118 years. Others like Finland, Hong Kong, Singapore, Israel, and South Korea eventually made it to developed standards by most measures.
  • Portugal would still be emerging by the authors’ GDP per Capita Rule. Argentina, Chile, and Greece would have hit developed status and then slipped back to emerging.
  • The major emerging market indices only go back to 1985 at the earliest (that’s the S&P; 1988 for MSCI, 1994 for FTSE). Using their GDP per Capital Rule, the authors go back to 1900, by far the longest emerging markets time series.
  • Using that series, emerging markets actually underperform developed markets, though they do experience periods of outperformance.
  • Investors in Russia and China lost everything due to revolutions. All other countries had stock market shut downs during wartime periods but reopened.