Is the Market Always Right?

By Charlie Bilello

23 Oct 2021

“The Market is always right.”

One of the most popular sayings which can also be one of the most dangerous. Why? Because “the market” can be very wrong at the worst possible time.

A few examples…

1) Silver in 1980

The price of Silver went up over 10x in the year leading up to its peak in 1980. From there it would decline over 90% and it remains over 50% below its peak today, more than 40 years later.

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2) Interest Rates in 1981

When interest rates peaked at over 15% in the early 1980s, hyperinflation was the biggest fear in markets. Over the next 39 years, both inflation and interest rates would fall, with 10-year yields hitting an all-time low of less than 1% in 2020.

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3) The Nikkei Peak in 1989

At the bubble peak in 1989, Japanese stocks were trading at a CAPE ratio of 77, and the Tokyo Imperial Palace was reportedly worth more than the real estate in all of California.

From there, the Nikkei would fall 82% before bottoming in October 2008. It remains more than 20% below its 1989 high today, 32 years later.

4) The Nasdaq Peak in March 2000

During the biggest bubble in US stock market history, the Nasdaq more than tripled in the 17 months leading up to its peak in March 2000. Technology stocks were all the rage and represented 65% of the index at the time. The subsequent decline of nearly 80% wiped out years worth of gains and the index would not hit new highs again for 15 years.

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5) Apple in 2001

Apple’s revenue fell more than 50% from 1995 to 2001, and was all but dead in the eyes of the investing public.

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Its stock crashed nearly 80% from its peak in 2000 and its market cap fell to $5 billion in 2001. Today, 20 years later, it’s the largest company in the world with a market value of $2.5 trillion.

6) Homebuilders in 2006

When the US housing bubble peaked in 2006, homebuilder stocks were thought to be the best way to participate in a continued rise in home prices. They would proceed lose over 80% of their value over the next few years.

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7) Greek Stocks in November 2007

In the 4 years leading up to their peak in November 2007, Greek stocks quadrupled. Today, 14 years later, they are 97% lower.

8) High Yield Bonds in December 2008

In December 2008, high yield bonds were yielding over 22%, pricing in another Great Depression. Only 8 months year later, they recouped all their losses and would post their best 5-year returns ever following the December 2008 low.

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9) Bitcoin in 2011

10 years ago Bitcoin had a market cap of $433,000. Today it’s value is over $1.2 trillion. Investors are not very good at pricing in exponential change.

10) Crude Oil in April 2020

When Crude Oil went negative in April 2020, the entire world was on lockdown and demand had collapsed. Only 18 months later, it’s trading above $80 a barrel, a 7-year high.

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When the Market is Wrong

The markets are highly efficient but they are not entirely so, and that’s because a purely efficient market requires investors to be rational at all times.

And as we can see from these examples, investors are anything but rational at extremes. They are instead highly emotional beings, prone to greed and fear. This inevitably leads to periods of irrational exuberance and irrational despondency, and the mispricing of securities as a result.

How does one counteract these forces?

For investors who maintain a diversified portfolio, rebalancing is an unemotional tool that can reduce your exposure to bubbles and take advantage of crashes. This is never easy, though, as it requires selling what’s working (ex: tech stocks in 2000) and buying what’s not (ex: value stocks in 2000).

When the market is wrong, you can do something about it, but you have to be willing to go against the crowd.

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Disclaimer: All information provided is for educational purposes only and does not constitute investment, legal or tax advice, or an offer to buy or sell any security. For our full disclosures, click here.

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