Submitted by Nick Colas of DataTrek
We aren’t much for financial market anniversaries, but later this week will mark 10 years since Lehman Brother’s bankruptcy. We have 4 lessons about that event, and the subsequent meltdown in global equities.
With the 10th anniversary of Lehman Brothers coming up at the end of the week, I got to thinking about what that event really taught me about how markets function. Work on Wall Street long enough and you start to feel a little like Forest Gump, unwittingly inserted into random bits of history. Lehman and the Financial Crisis wasn’t my first rodeo but it was certainly the most memorable.
A few thoughts:
#1. Financial market turbulence is inevitable. History is clear enough on that point. There have been speculative bubbles for hundreds of years and countless bear (and bull) markets in financial and commodity markets in just the last century. Until humans and computers reach some sort of singularity, human nature guarantees many more.
Any rational investment approach incorporates that reality, either by diversification or unwavering commitment to stocks. The former is, of course, much easier to stomach.
#2. Modern finance remains too myopic about what really drives monetary policy, economic growth, and asset prices. To my thinking, geopolitical events matter at least as much (and in many ways far more). For example, the 1973 Middle East war and its effects on oil prices did as much to spur US inflation later in the decade as loose monetary policy. The Federal Reserve’s response to the 9/11 terror attacks may have cemented the notion of a “Fed Put”, but what choice did they really have?
The reality about 2008 is that the US was on track to see a recession regardless of what happened with Lehman. Oil prices had doubled from June 2007 to the same month in 2008 and sat at $140/barrel. That’s exactly the sort of spike that always drives a US (and usually global) economic slowdown. Ten years on, however, the Financial Crisis is the only thing most market participants remember. The truth is that the global economy was already on very shaky ground.
#3. Stock market lows get made when investors give up; what they “give up on” determines how low they go. About a year after the March 2009 lows a money management client told me “My customers didn’t sell the S&P at 700 because they had given up on stocks – they sold because they had given up on America.”
In reality, I think it was because those investors had given up on the US financial system, but my client’s sentiment was much more right than wrong. That is an important point just now, if only because the political/social climate feels rather more fragile than usual at the moment.
#4. The seeds of the next downturn are always planted in the prior one, but the engine of recovery tends to be something new. Consider the smart money’s big worry just now: Chinese real estate. China’s consumer economy is uniquely tied to this asset class, which has benefited from government policies meant to generate better domestic wealth creation in the face of sluggish export markets since the Financial Crisis. If and when that bubble deflates, so the bearish case goes, it could reduce global economic growth for years.
At the same time, imagine if someone had told you a decade ago to buy the S&P 500 because of:
- A popular but small-ish online retailer (Amazon),
- a new cell phone (Apple’s iPhone, launched in 2007),
- a search engine (Google)
- and a social media company that wouldn’t come public until 2012 (Facebook).
Tech, of course, is the largest reason the S&P 500 is 80% higher than its pre-Lehman highs, and an object lesson in the importance of technological innovation in driving stock prices over the long term. That, in the end, is the most important takeaway from Lehman Brothers and the Financial Crisis.