Why they can’t say “sell”
Until the 1980s the stock market worked like this:
Prices, of course, went up and down stochastically over short periods of time. But, more importantly, there were long waves of expansion and contraction. After a long expansionary wave, when stock prices were over-valued and investment prospects were medium-term poor, it made sense to sell — get out of the market and wait until the inevitable contractionary wave played out — at which point prices would be cheap, and buying stocks would be a good investment.
If you look at any graph of historical prices you’ll see, for example, long contractionary waves from 1929 to 1942 and from 1968 to 1982 (during the latter period stock prices were flat in nominal terms but inflation was high, so prices fell quite a bit in real terms).
What was the reason for these long waves? It was attributable to a momentum of sentiment affecting generations of investors.
Think of how hyper-exuberance characterized the climate of the 1920s. It led to a boom and then the inevitable bust of 1929.
During the Great Depression, stock investors were so burned over so long a time that a sentiment of fear and disdain became ingrained. The generation of investors that came of age during the forties was decidedly conservative, prone toward putting their money into bonds rather than stocks, and prone toward avoiding debt.
When investors are in a conservative mood they tend to save more and invest less. With portfolios underweight in equities, stock prices will be low relative to their true value. At some point, as time passes and fear subsides, the high levels of potentially investable funds (savings) start to be committed to the markets in order to take advantage of the low stock prices. From a depressed level the stock market starts to move higher. This results in portfolio performance exceeding expectations . . . and the sentiment starts to shift.
As an expansion gains momentum, investors gradually lose their apprehensiveness regarding risky investments and debt. A self-reinforcing process is set in motion. They see that others are getting higher returns on stocks than on bonds. As values trend up, leverage and speculation are rewarded. During such a period it pays, for example, to tap the amassed equity in one’s home and use the funds to buy stock or even a second property for investment — because asset values are appreciating at a rate that more than covers the cost of the second mortgage.
Then the markets start to get “frothy” as accelerating positive sentiment and speculation push prices high relative to underlying value. This happens over a long enough period that a whole generation of investors gets used to high prices and fails to perceive the condition of overvaluation. A collapse then becomes inevitable. During the ensuing contractionary wave sentiment again reverses and asset prices again fall below their true value for an extended period of time.
Owing to that dynamic long expansionary waves used to last about 25 years and long contractionary waves used to last about 15 years. Toward the end of an expansion a prudent financial advisor would motivate a client investor to lighten up on equities exposure. In other words: Do Some Selling!
An issue of our times is that advisors won’t say that anymore. Because the only financial advice that has turned out to be prudent over the last 40 years has been: Buy The Dip!
Since the start of the 1980s recovery, the fiscal and monetary authorities have gone to great lengths to avoid long contractionary waves. When the economy has started to contract and/or the markets have started to fall, they’ve lowered interest rates, expanded the money supply, and engaged in more and more fiscal stimulus.
Now it’s looking as if the super-long expansionary wave of 1982 to 2021 has driven values to levels that can’t possibly be sustained — while the authorities have gone to such policy extremes that they have (or soon will) run out of “ammunition.” For example, the “Fed Funds” interest rate is zero and can’t go lower:
Yet financial advisors have “learned” that they can’t advise “sell.” Such advice has been wrong for 40 years.
And this generation of investors has never seen a contractionary long wave.