Global Stocks - Legacy of the Great Recession?

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Simplegift
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Global Stocks - Legacy of the Great Recession?

Post by Simplegift » Sun Jun 18, 2017 11:01 am

Much has been written about the legacy of the Great Recession and how deep a hole the recession created in the global economy. Recessions associated with financial crises are thought to be deeper and take much longer to recover than normal recessions. Yet, defying global trends, the earnings of U.S. companies have grown 10% annually since 2009 (in green, chart below) — double their historical growth rate and three times the rate of U.S. GDP growth over the period:
Comparing global stock market performances since the Great Recession (chart below), stock prices worldwide have indeed followed the earnings growth rates of their respective asset classes — strong in the U.S., but lackluster in most other developed and emerging markets:
Historical studies indicate that it has taken, on average, about 8 to 9 years for countries to recover from deep financial crises and to reach their pre-crisis levels of income and economic growth. With this in mind, the time may be near when international stocks, in both developed and emerging markets, begin to resume their pre-crisis earnings growth rates. Thoughts?
Cordially, Todd

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Re: Global Stocks - Legacy of the Great Recession?

Post by nedsaid » Sun Jun 18, 2017 1:16 pm

I am sooooo old that I remember waaaaaay back to 2007 and early 2008 when we were told that International Stocks were the "must have" asset class because they didn't correlate with US Stocks and actually had better returns. My how times have changed.

It does seem that there are stretches where US and International Stocks take turn outperforming each other. I remember back in the 1980's when domestic funds started adding International Stocks to boost returns. The 1990's favored the US, the 2000's favored International until the 2008-2009 financial crisis, since then US Stocks have been the place to be. In 2017, International has shown signs of life again and is outperforming US so far. My guess is that we will see a good stretch of strong International performance now. We might be seeing the start of a new trend now.
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Re: Global Stocks - Legacy of the Great Recession?

Post by Simplegift » Sun Jun 18, 2017 1:56 pm

Looking closer, it appears there's quite a bit of variation in the recovery times of different countries after the 2008 Financial Crisis. According to recent data, Germany recovered in 3 years, the U.S. in 6 years, and Iceland, the U.K. and Ireland in 8 years. Some European countries, notably Greece, Italy, Spain and Portugal are not projected to fully recover for another 5-6 years.

It's also a bit surprising to see that emerging markets, as a group (on right below), were generally more resilient and recovered faster than developed economies in the years immediately after the Financial Crisis:
Last edited by Simplegift on Sun Jun 18, 2017 7:35 pm, edited 1 time in total.
Cordially, Todd

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Re: Global Stocks - Legacy of the Great Recession?

Post by 2pedals » Sun Jun 18, 2017 3:22 pm

Simplegift wrote:With this in mind, the time may be near when international stocks, in both developed and emerging markets, begin to resume their pre-crisis earnings growth rates. Thoughts?
I don't like to try to predict these things because anything can happen and I have often been wrong in the past. Having said that it seems reasonable to allocate a portion of equity into total international stock index fund, say 30% and stay with it for the long haul.

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Re: Global Stocks - Legacy of the Great Recession?

Post by Valuethinker » Sun Jun 18, 2017 4:55 pm

Simplegift wrote:Looking closer, it appears there's quite a bit variation in the recovery times of different countries after the 2008 Financial Crisis. According to recent data, Germany recovered in 3 years, the U.S. in 6 years, and Iceland, the U.K. and Ireland in 8 years. Some European countries, notably Greece, Italy, Spain and Portugal are not projected to fully recover for another 5-6 years.

It's also a bit surprising to see that emerging markets, as a group (on right below), were generally more resilient and recovered faster than developed economies in the years immediately after the Financial Crisis:
Not surprising at all given that ground Zero for the GFC was the private debt & housing bubbles/ weak banking systems of developed countries. US, UK, Iceland, Ireland, Spain in particular. EM just didn't have that-- there was no pre 1998 like scenario going on. And China came roaring back in GDP terms, and thus so did Russia (until oil price fell) and Brazil and some of the smaller SE Asian markets in particular.

The Eurozone Crisis which followed was kicked off by the GFC but had different roots. I doubt Greece will have recovered in 5-6 years (or in fact, Portugal). Italy is just stuck-- not sure recovery of any form is on the cards.

Consider how well Eastern Europe (only Slovakia and Slovenia are in the Eurozone) has done relative to western Europe (Poland in particular). But even Bulgaria Romania Hungary haven't done that badly.

Note that the brewing EM crisis is the Chinese private debt & construction bubble. Authorities fighting very hard to stop it blowing, but plenty of signs it will blow.

In developed markets next crises are likely to be Canada and Australia, and housing related.
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Re: Global Stocks - Legacy of the Great Recession?

Post by Valuethinker » Sun Jun 18, 2017 4:57 pm

Simplegift wrote:Much has been written about the legacy of the Great Recession and how deep a hole the recession created in the global economy. Recessions associated with financial crises are thought to be deeper and take much longer to recover than normal recessions. Yet, defying global trends, the earnings of U.S. companies have grown 10% annually since 2009 (in green, chart below) — double their historical growth rate and three times the rate of U.S. GDP growth over the period:
Comparing global stock market performances since the Great Recession (chart below), stock prices worldwide have indeed followed the earnings growth rates of their respective asset classes — strong in the U.S., but lackluster in most other developed and emerging markets:
Historical studies indicate that it has taken, on average, about 8 to 9 years for countries to recover from deep financial crises and to reach their pre-crisis levels of income and economic growth. With this in mind, the time may be near when international stocks, in both developed and emerging markets, begin to resume their pre-crisis earnings growth rates. Thoughts?
I wouldn't conflate how economies and median families do, against how stocks do.

Companies have recovered profits, but family incomes and economic positions have not recovered anything as fast (depends on economy). Also companies have done a lot of stock buybacks, which increases EPS.

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Re: Global Stocks - Legacy of the Great Recession?

Post by Simplegift » Sun Jun 18, 2017 6:42 pm

2pedals wrote:I don't like to try to predict these things because anything can happen and I have often been wrong in the past. Having said that it seems reasonable to allocate a portion of equity into total international stock index fund, say 30% and stay with it for the long haul.
Very reasonable indeed. Many of us with substantial allocations to international stocks, both developed and emerging, have seen our investments more or less just go sideways for the past five years. If this lackluster performance is in large part a legacy of the Great Recession, especially in developed markets, there might be light on the horizon.

Though recoveries from deep financial crises do take years, incomes and corporate earnings historically have eventually reached and exceeded pre-crisis levels — if one is patient and doesn't give up the ship.
Cordially, Todd

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Re: Global Stocks - Legacy of the Great Recession?

Post by NibbanaBanana » Sun Jun 18, 2017 7:23 pm

Simplegift wrote:Much has been written about the legacy of the Great Recession and how deep a hole the recession created in the global economy. Recessions associated with financial crises are thought to be deeper and take much longer to recover than normal recessions. Yet, defying global trends, the earnings of U.S. companies have grown 10% annually since 2009 (in green, chart below) — double their historical growth rate and three times the rate of U.S. GDP growth over the period:
Well, SNP earnings dropped about 30% over 2007-2009. So just returning to pre GFC levels would contribute to a pretty nice earnings growth rate.

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Re: Global Stocks - Legacy of the Great Recession?

Post by nisiprius » Sun Jun 18, 2017 7:29 pm

nedsaid wrote:...I am sooooo old that I remember waaaaaay back to 2007 and early 2008 when we were told that International Stocks were the "must have" asset class because they didn't correlate with US Stocks and actually had better returns...
Yes, one of the great constants is that very confident-sounding, cut-and-dried statements about how various kinds of assets behave--"when X happens, asset Y does Z because investors do W" are very often falsified when X actually happens.

The people who made them of course give reasons after the fact. "Well, it should have done Z but it didn't because Q happened, and nobody could have expected that."

There's an awful lot of correlation BS. I suspect the only really robust relationship is that between stocks and bonds, which really do have low correlation. But claims that an 0.66 correlation--the correlation between international and U.S. stocks since creation of the EAFE index--is a powerful diversifier, is... just not so.
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Re: Global Stocks - Legacy of the Great Recession?

Post by nedsaid » Sun Jun 18, 2017 7:32 pm

nisiprius wrote:
nedsaid wrote:...I am sooooo old that I remember waaaaaay back to 2007 and early 2008 when we were told that International Stocks were the "must have" asset class because they didn't correlate with US Stocks and actually had better returns...
Yes, one of the great constants is that very confident-sounding, cut-and-dried statements about how various kinds of assets behave--"when X happens, asset Y does Z because investors do W" are very often falsified when X actually happens.

The people who made them of course give reasons after the fact. "Well, it should have done Z but it didn't because Q happened, and nobody could have expected that."

There's an awful lot of correlation BS. I suspect the only really robust relationship is that between stocks and bonds, which really do have low correlation. But claims that an 0.66 correlation--the correlation between international and U.S. stocks since creation of the EAFE index--is a powerful diversifier, is... just not so.
Returns of asset classes compared to each other change over time. Correlation between asset classes change over time also. International Stocks looked like a slam dunk in 2008 before the financial crisis. Now in 2017, people wonder why we should invest in International Stocks at all. Since the 2008-2009 financial crisis and stock market crash, US Stocks have done great and International Stocks have looked very tepid in comparison.
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Re: Global Stocks - Legacy of the Great Recession?

Post by Simplegift » Sun Jun 18, 2017 7:42 pm

nedsaid wrote:Returns of asset classes compared to each other change over time. Correlation between asset classes change over time also.
In the decade prior to the 2008 financial crisis, global equity market correlations were increasing — but since then, the trend has been toward lower correlations (chart below). It's a mystery to me what drives these trends in global correlations.
Cordially, Todd

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Re: Global Stocks - Legacy of the Great Recession?

Post by nedsaid » Sun Jun 18, 2017 7:48 pm

Todd, thanks for the graph. It is a good illustration that the numbers move all over the place. Pretty much what I do is diversify across asset classes, cross my fingers, and click my ruby slippers.
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Re: Global Stocks - Legacy of the Great Recession?

Post by AlohaJoe » Sun Jun 18, 2017 8:09 pm

nisiprius wrote:I suspect the only really robust relationship is that between stocks and bonds, which really do have low correlation.
I'm not sure I would even say this.

We already read that corporate bonds and stocks have a high correlation, so maybe we mean "government bonds" and stocks have a low correlation.

But we know (from papers like "The Relationship Between Bonds and Stocks in Emerging Countries") that emerging government bonds don't have a low correlation with stocks. So maybe we mean "developed government bonds" and stocks have a low correlation.

But we have things like "A Century of Stock-Bond Correlation" from the Reserve Bank of Australia and "Three Centuries of Macroeconomic Data" from the Bank of England and "The Stock-Bond Correlation" from PIMCO that call even that into question. The PIMCO paper in particular points out that correlations have changed frequently and often been very positive for long periods of time.
From 1927 to 2012, the correlation between the S&P 500 and long-term Treasuries – as calculated by calendar year based on monthly data – has changed sign 29 times, and has ranged from −93% to +86%
Image

The Bank of England, after reviewing the history of correlations, warns that "the addition of QE and forward guidance to the monetary policy toolbox may mean bonds react differently to previously."

So, as usual, the future remains hard to predict :(

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Re: Global Stocks - Legacy of the Great Recession?

Post by Simplegift » Mon Jun 19, 2017 12:02 am

^^^ Appreciate the insightful post, AlohaJoe — and the papers you mentioned. The PIMCO research, “The Stock-Bond Correlation,” based on monthly data for the 1927-2013 period, was especially helpful:
PIMCO wrote:In the short run, stocks and bonds tend to respond in opposite directions to fluctuations in investor risk appetite. During flight-to-safety episodes we observe the familiar negative correlation. However, in the long run, secular trends in growth, in inflation and interest rates may have similar effects on stock and bond returns, inducing a positive correlation. 

My primary rationale for a large allocation to high-quality bonds has always been their negative correlation to equities during crises and flight-to-safety episodes — and they’ve fulfilled this role very well over the years. I’ve never give much thought to the longer term stock-bond correlation trends, but they’re interesting to know about. Thanks.
Cordially, Todd

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Re: Global Stocks - Legacy of the Great Recession?

Post by AlohaJoe » Mon Jun 19, 2017 1:34 am

Simplegift wrote:My primary rationale for a large allocation to high-quality bonds has always been their negative correlation to equities during crises
I agree that this is what most people, especially here on Bogleheads, want from bonds -- so talking about long term correlations is a bit unrelated. And I think they generally do a good job of that. But it is worth keeping in mind that they don't always do that

In the crash of 1973 & ensuing bear market they had a correlation of 0.20. (Measuring correlation of monthly returns during the bear market.)
In the bear market of 1946-47, the correlation was even higher at 0.43.

(By comparison, 2000 & 2007 had correlations more like -0.45.)

I don't want to overstate the case, since even at 0.43 that correlation is far lower than most other asset classes, so most investors would have been pretty happy with their bonds at those times. But it is worth keeping in mind that not all bear markets are "flight to quality" type events. Or at least they weren't historically. Maybe "things have changed" such that now investors are much more likely to "fly to quality" in any market disturbance so that 1973 or 1946 are no longer likely to repeat?

I guess if answers to these kinds of questions were clearer we wouldn't have so much to talk about :)

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Re: Global Stocks - Legacy of the Great Recession?

Post by Valuethinker » Mon Jun 19, 2017 2:45 am

AlohaJoe wrote:
Simplegift wrote:My primary rationale for a large allocation to high-quality bonds has always been their negative correlation to equities during crises
I agree that this is what most people, especially here on Bogleheads, want from bonds -- so talking about long term correlations is a bit unrelated. And I think they generally do a good job of that. But it is worth keeping in mind that they don't always do that

In the crash of 1973 & ensuing bear market they had a correlation of 0.20. (Measuring correlation of monthly returns during the bear market.)
In the bear market of 1946-47, the correlation was even higher at 0.43.

(By comparison, 2000 & 2007 had correlations more like -0.45.)

I don't want to overstate the case, since even at 0.43 that correlation is far lower than most other asset classes, so most investors would have been pretty happy with their bonds at those times. But it is worth keeping in mind that not all bear markets are "flight to quality" type events. Or at least they weren't historically. Maybe "things have changed" such that now investors are much more likely to "fly to quality" in any market disturbance so that 1973 or 1946 are no longer likely to repeat?

I guess if answers to these kinds of questions were clearer we wouldn't have so much to talk about :)
I think what we have here is the omitted variable problem.

The correlation between stocks and bonds is driven by both being sensitive to a common underlying factor.

Hence, equities also fell during the 1994 "bond market massacre"-- an unexpected rise in interest rates. And in late 2008, TIPS bonds fell sharply because of their use as collateral in REPO agreements which were then unwound explosively by banks seeking liquidity.

1946-47 I don't know. From memory that was a year of a brutal recession due to postwar contraction in government spending? At the same time, the economy was decontrolled (interest rates etc.). So it may simply have been the market "righting itself".

1973 you had rocketing inflation and the Oil Crisis. Plus a US President being investigated for corruption. Neither factor good for Treasury bonds.

Overall:

- corporate bonds, even investment grade, have equity risk. So a higher correlation with stock markets is normal

- US Treasury bonds are sensitive to changes in interest rates & expectations of Fed policy, and to changes in inflationary expectations. Stocks are also sensitive to these factors

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Re: Global Stocks - Legacy of the Great Recession?

Post by Valuethinker » Mon Jun 19, 2017 2:48 am

Simplegift wrote:
2pedals wrote:I don't like to try to predict these things because anything can happen and I have often been wrong in the past. Having said that it seems reasonable to allocate a portion of equity into total international stock index fund, say 30% and stay with it for the long haul.
Very reasonable indeed. Many of us with substantial allocations to international stocks, both developed and emerging, have seen our investments more or less just go sideways for the past five years. If this lackluster performance is in large part a legacy of the Great Recession, especially in developed markets, there might be light on the horizon.
Is that the currency effect? My investments have done well, thank you very much. And I am significantly underweight in US stocks.
Though recoveries from deep financial crises do take years, incomes and corporate earnings historically have eventually reached and exceeded pre-crisis levels — if one is patient and doesn't give up the ship.
Earnings Per Share is key. The amount of equity out there has reduced as US companies in particular (but all companies) buy back stock. That has kept EPS momentum going.

Inflation has a significant impact on the numbers. Yes corporate earnings recover, but adjusted for inflation it takes a lot longer than people think.

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Re: Global Stocks - Legacy of the Great Recession?

Post by Valuethinker » Mon Jun 19, 2017 2:51 am

Simplegift wrote:
2pedals wrote:I don't like to try to predict these things because anything can happen and I have often been wrong in the past. Having said that it seems reasonable to allocate a portion of equity into total international stock index fund, say 30% and stay with it for the long haul.
Very reasonable indeed. Many of us with substantial allocations to international stocks, both developed and emerging, have seen our investments more or less just go sideways for the past five years. If this lackluster performance is in large part a legacy of the Great Recession, especially in developed markets, there might be light on the horizon.

Though recoveries from deep financial crises do take years, incomes and corporate earnings historically have eventually reached and exceeded pre-crisis levels — if one is patient and doesn't give up the ship.
The performance of US stocks is about the performance of the tech sector, I believe.

If you look at the FANGS they are a large fraction of the performance of the US market in the last 5 years - Facebook Apple Netflix Google (can't remember S, but Amazon is in there somewhere).

Those companies have carved up a larger than previous share of the global corporate profit pool. And the market has rerated them, pricing them as if that situation will continue.

Conversely resource stocks, which the US market has relatively few (ex oil & gas) have had a torrid time. Oil and gas also hasn't been a great performer, overall (at peak, BP & Shell were c. 12% of the UK stock market).

US financial sector has also recovered faster than the European one.

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Re: Global Stocks - Legacy of the Great Recession?

Post by nisiprius » Mon Jun 19, 2017 7:17 am

Simplegift wrote:
nedsaid wrote:Returns of asset classes compared to each other change over time. Correlation between asset classes change over time also.
In the decade prior to the 2008 financial crisis, global equity market correlations were increasing — but since then, the trend has been toward lower correlations (chart below). It's a mystery to me what drives these trends in global correlations.
Sampling error. I think.

I think it's pure noise. People are seeing animal shapes in clouds and faces in rocks.

This is a chart of three-year rolling correlations between monthly data from two random number generators (i.e. they are correlations between overlapping sets of 36 samples).

Image

I did that a while ago for another purpose. Let's cut that down to one-year rolling correlations, like the "global equity market correlations" chart in Simplegift's post, above, and stretch the horizontal axis to be about the same:

Image

So, as you can see, it is perfectly possible to have one-year correlations fluctuating that much and it doesn't mean a darn thing. It would be fun to tell people this was a real correlation, between some real financial variables and watch people give "reasons" for what happened.
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Re: Global Stocks - Legacy of the Great Recession?

Post by 2pedals » Mon Jun 19, 2017 8:55 am

nisiprius wrote:....I think it's pure noise. People are seeing animal shapes in clouds and faces in rocks. ....
what about all of the weirdness in NASA photos?
nisiprius wrote:.... two random number generators....
You could have fooled me, that looked like the performance of two different indices.

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Re: Global Stocks - Legacy of the Great Recession?

Post by nedsaid » Mon Jun 19, 2017 11:27 am

nisiprius wrote:
Simplegift wrote:
nedsaid wrote:Returns of asset classes compared to each other change over time. Correlation between asset classes change over time also.
In the decade prior to the 2008 financial crisis, global equity market correlations were increasing — but since then, the trend has been toward lower correlations (chart below). It's a mystery to me what drives these trends in global correlations.
Sampling error. I think.

I think it's pure noise. People are seeing animal shapes in clouds and faces in rocks.
Yes, there is a lot of noise in the financial data. And yes, numbers change over time as there seems to be a lot of slipperiness. International Stocks were the "must have" asset class before the 2008-2009 financial crisis and now they are hardly worthy of the dustbin. In a few years, I am sure we will be hearing a different story. One reason that you have to think longer term.

I have often thought that we tend to see what we want to see in data. Bias is a difficult problem to overcome and that is why you need vigorous challenges to the assertions made by researchers. Sometimes data is like a Rorschach test, like interpreting inkblots. With peer review, back and forth rigorous debate, we get closer to the truth.
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Re: Global Stocks - Legacy of the Great Recession?

Post by garlandwhizzer » Mon Jun 19, 2017 1:04 pm

nedsaid wrote:

Yes, there is a lot of noise in the financial data. And yes, numbers change over time as there seems to be a lot of slipperiness. International Stocks were the "must have" asset class before the 2008-2009 financial crisis and now they are hardly worthy of the dustbin. In a few years, I am sure we will be hearing a different story. One reason that you have to think longer term.

I have often thought that we tend to see what we want to see in data. Bias is a difficult problem to overcome and that is why you need vigorous challenges to the assertions made by researchers. Sometimes data is like a Rorschach test, like interpreting inkblots. With peer review, back and forth rigorous debate, we get closer to the truth.
1+

These words come from an experienced investor, one who has carefully observed the to and fro of markets over long stretches of time. When it comes to investment strategies and decisions, a certain sense of skepticism seems to me appropriate. Bias sometimes comes from financial media/marketing and "new investment research insights." Sometimes it is self-generated. It is often best to keep Pogo's advice in mind. "We have met the enemy and he is us."

Garland Whizzer

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