Are Stock Markets Irrationally Apprehensive?

March 6, 2009

The DJIA avoided re-crossing Greenspan’s irrational exuberance flash-point of 6437 today, but it seems only a matter of short time before that happens.  Many would argue that investors are as irrational now as then, but consider this.  From August 12, 1982, the start of a bull mark when the DJIA was at 777, to 6437 now would represent a per annum advance of 8.3% over roughly 26-1/2 years.  U.S. real economic growth over such a period averaged 3.1% per annum.  Over the very long run, one would expect the share of GDP represented by profits to hold reasonably steady and stock prices to move in line with profits.  The discrepancy between appreciation in the DOW and real GDP growth cannot be fully explained by prices. Consumer prices during this period went up 3.0% per annum.  Since share-holders also received dividends, a rise from 777 in August 1982 to 6437 in March 2009 doesn’t appear unreasonable, let alone irrational.  Only when one knows that the market has dropped from a high as 14165 in merely 17 month do present levels look irrational.  That’s what boom-bust cycles are about.  The higher one flies, the harder the fall.

Copyright 2009 Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.


One Response to “Are Stock Markets Irrationally Apprehensive?”

  1. So do you believe this was just a boom cycle? Or were there bubbles created? And how do super-bubbles figure into this? (Has anyone else used that term yet? I use it as an armchair observer trying to capture all the financial wizardry in creating derivatives out of thin air.) Has anyone done a study to calculate how all these derivatives have impacted the DJIA over the last ten years? And when we say boom, I assume we are distinguishing between an economic boom and a rise in stock index values. While the two are related/correlated, they aren’t necessarily the same thing, right? Just like barometers are correlated with the weather, generally, but one can’t use a barometer alone to predict future weather patterns, right? Am I off the wall here?