A Bang or a Whimper?

J.P. Morgan did not have much use for either the stock market or reporters. So, when one reporter importunately asked him what the market was going to do one day, he replied, with about equal parts contempt and truth, “It will fluctuate.”

Until the spectacular events of late October, however, the stock market has been doing little fluctuating. Mostly, it has just gone up and up and up. After all, I was just into my 20s when the Dow Jones industrial average first hit a thousand, and I was over forty when it finally reached 2000. Only a decade later it soared, seemingly effortlessly, past eight thousand.

The explanations, of course, have been endless, for that is what today’s financial reporters, like those in Morgan’s day, are paid to do. The American economy is in better shape than it has been in a long time. The computer and globalization are opening vast new opportunities for productive investment. The baby boomers, in their peak earning years and increasingly past their peak child-rearing expenses, are pouring money into stocks and mutual funds to provide for retirement. And so the market keeps rising and rising.

All bull markets come to an end some day. But whether they end with a bang or a whimper can’t be foretold, for the particular economic circumstances are always unique. In the 1920s, for instance, the Dow Jones rose from 68.3 at the end of October 1921 to 381.17 on September 2, 1929. Then the market trended relatively gently downward until late October, when in two wild days, Black Thursday, October 24, and Black Tuesday, the following week, the bottom dropped out. By November 13, the market capitalization of the stocks listed on the New York Stock Exchange, 80 billion dollars in early September, had been reduced to fifty billion, a decline of more than a third.

And, while there are now relatively few who personally remember the Crash of ’29, it has become an ineradicable part of the American folk memory. For while it did not cause it, the Crash happened at the very beginning of what soon became the deepest economic depression the modern world has known. By the time the Dow finally hit bottom in 1933, it was barely one-tenth of what it had been less than four years earlier, and virtually where it had been on January 1, 1900. The capital gains of a third of a century had been wiped out.

The bull market of the early 1980s, however, while it ended in a similar great crash, on October 19, 1987, was followed by something completely different. The Federal Reserve, having learned the lessons of 1929, acted immediately to ensure liquidity in the market, preventing the crash from feeding on itself. As a result, the uproar on Wall Street did not greatly affect the American economy as a whole. Indeed, the market almost immediately began to climb again, and today, only a decade later, the crash of ’87 is hardly remembered at all.

Another Wall Street bull market, however, came to an end in a very different manner than either 1929 or 1987. At the end of April 1942, the Dow Jones sank beneath a hundred for what turned out to be the last time. The Second World War, which the United States had entered only a few months earlier, was going very badly for us. But, as the American war machine began to crank up to full speed, corporate profits, despite wartime price controls, rose swiftly. The size of the American economy nearly doubled in the war years, and corporate profits reached more than two and a half times their pre-Depression levels.

Curiously, stock prices did not follow suit. The public, with all-too-vivid memories of 1929, was still afraid of the stock market. Further, most economists were predicting a return to depression once the stimulus of the war was removed. So, although per capita disposable income nearly doubled between 1940 and 1945, the public did not invest it in stocks. Instead people paid down their automobile and mortgage loans and massively increased their personal savings. Americans saved $4.2 billion in 1940. In 1944 they saved $36.9 billion. Most of this went into insured savings accounts and government war bonds, not Wall Street.

The economists, however, were wrong in their predictions, as they usually are. As vast disposable income was piling up in bank accounts and war bonds, vast demand was piling up for the new automobiles, refrigerators, housing, and other capital goods that were unobtainable during the war.

This great demand fueled a boom, not a bust, in the American economy. But Wall Street still stayed in the doldrums that it had been in since the Depression. In 1947, million-share days, which were first achieved in the 1880s, were relatively rare. Brokers with little to do sometimes played baseball on the floor of the exchange with rolled up newspapers and crumpled quotation sheets for bats and balls. Such blue-chip stocks as Firestone and Jones & Laughlin Steel were selling for less than four times earnings, and many were paying 8 to 12 percent in dividends, far above what bonds were paying. As late as December 31, 1949, the Dow Jones average stood at only two hundred, less than twice what it had been in 1940, although the gross national product had nearly tripled and corporate profits had done far better than that.

Finally, one of Wall Street’s oldest adages, “Sell on trumpets; buy on drums,” proved true once again. The trumpets that had heralded the triumph of World War II had not sparked a real rally. But as the drumbeats of the 1953-54 recession began to be heard, the market unexpectedly took off. The Dow stood at only 264.04 on September 30, 1953. The following year it smashed through the 1929 record of 381.17 that had stood for twenty-five years. On November 14, 1972, it crossed a thousand for the first time.

But, having crossed the magic point of 1000, the bull market suddenly ended. There was no crash on huge volume, no renewed depression. Instead, the market simply … stalled. The Dow would break through a thousand on four more occasions in the ensuing years, but each time it quickly fell back. It would be more than a decade and a half before, on its fifth try, the Dow broke through one thousand for good, in 1982.

What happened? Why was this bull market different? There are several reasons. First, the period from 1953 to 1966 was, in many ways, not so much a bull market, which thrives on predictions of a rosy future, as a market simply catching up with economic reality. As the long shadow of 1929 gradually faded, people once more began moving into stocks that had been seriously undervalued for years. So there was never a speculative bubble as there had been in 1929, when the market lost touch with the underlying economy. Nor had the new forces that greatly exacerbated the crash of 1987, such as unregulated computer trading, yet been invented.

Further, if you look at a chart of the Dow Jones from the mid-sixties to the early eighties, its apparent stagnation was, in some ways, only apparent. Lurking within it, hidden by inflation, was one of the worst bear markets in Wall Street history.

With the conclusion of the Vietnam War in December 1972, the market rallied, and on January 11, 1973, it hit a new all-time high of 1051.70. Corporate profits were good in 1972 and better in 1973. But that was about all that was right with the economy. By the fall of 1973 the “three I’s”—inflation, interest rates, and impeachment—were increasingly worrisome. When the oil embargo caused long lines at gas stations, the market, dropping day by day rather than all at once, lost fully 20 percent of its value between October 26 and December 12.

The next year was even worse. While the gross national product declined by 2 percent in a modest recession, inflation roared ahead at 12 percent. People abandoned the stock market in droves. Thirty percent of American families owned stock in 1970, while only 21 percent did in 1973. New forms of investment, such as money market funds, attracted investors away from Wall Street. With ever-rising interest rates, they were paying 8 to 9 percent, compounded daily, and were much safer than stocks.

As a result, stocks sank another 24 percent in 1974. In two years the market capitalization of New York Stock Exchange issues lost almost 50 percent of its value. But had it not been for the galloping inflation those years (around 12 percent in 1973 and 1974) the damage would have been far worse: a drop of more than two-thirds. Not as bad as 1929–33, but still, by a wide margin, the second worse bear market of the twentieth century.

Just as in the 1930s, there was widespread talk that Wall Street was finished as a major financial player. A seat on the exchange was selling for less than the cost of a New York City taxi medallion. The amount of vacant office space in downtown Manhattan was growing swiftly. There were even calls for another Reconstruction Finance Corporation.

But bear markets, like bull ones, come to an end, and the Dow in the first six months of 1975 regained much of what it had lost in the previous two years. Wall Street survived and the 1970s are today nearly as distant a memory as the 1930s, and the new bull roars on. Whether this one will end with a bang or a whimper is anyone’s guess. But end, one day, it most certainly will.