The Dow Jones index has come within a whisker of bursting through the 20,000 level this week, so it’s no surprise that the newspapers are full of stories about equity markets having reached new or all-time highs. But as is often the case with news, this is presented as a concern, and not as good news.
It is a common perception that all-time highs mean that markets are going to fall, a kind of reversion to a mean level. This isn’t really surprising. Behavioural studies show that we like to anchor our thinking to round and big numbers, like meeting on the hour, or an equity market index at 10,000. Similar thinking affects our concern about previous highs. New ground is unfamiliar territory.
But it is wrong to believe that all-time highs are a sign of impending doom. By definition, breaking new highs is a function of a rising market.
The S&P hit a new all-time high on 11 July 2016. But it has since recorded 18 new closing highs, rising more than 5% since then. The UK market hit an all-time high on 27 April 2015, and hasn’t quite got past it (yet) – but it did reach just 0.1% shy of the high on 10 October this year.
Since 1986, the UK equity market index has spent 5% of all days at record highs. And in 38% of the time the market has been at the high or within 5% from it. Moreover, history shows us that even if the market is at a record high it doesn’t mean the market is much more likely to go down from there. Over the past 30 years, the return over the year following a high has been positive 61% of the time, not much different from normal periods (70%). Using the US stock market to look back further (to 1926) the occasions when the market went up over the following year was the same as normal (69% vs 68%).
While we shouldn’t get hung up over equity markets breaking new highs, it is also important to bear in mind that these index levels are prices, not returns from investing in stocks. The FTSE price index peaked at 6,930 the end of 1999; it is not much higher now, at 6,999. So zero return? No – if you’d reinvested dividends back into the market the index would stand at 12,589 – a return of 80% despite two market crashes over this period.
Data source: Macrobond as at close 15 December 2016
As with all investing, your capital is at risk. The value of your portfolio with Nutmeg can go down as well as up and you may get back less than you invest. Past performance and forecasts are not reliable indicators of future performance