When the Dow Jones Industrial Average (Dow) crossed a new high of 40,000 in May, it achieved a milestone that appeared implausible given recent popular sentiment. Just two years earlier, central banks were still on the path of aggressively hiking rate to curb inflation. Gloomy equity market forecasts abounded. Fast forward to today, and interest rates remain higher than anticipated. Many valuation models use interest rates to discount future cash flows: higher rates lower a company’s future earnings and put downward pressure on stock prices. Alongside slower economic growth and high debt levels, the future has appeared cloudy through many lenses. Yet, markets can often be confounding.
From an economic perspective, this period has been described by some as a liminal space, a transition between ‘what was’ and ‘what’s next’ – a sort of “in-between” economy that’s neither great nor terrible. It’s a fair observation and perhaps explains why financial narratives seem varied and shifting. In December, many market observers believed we had inflation in check; yet the anticipated rate cuts did not largely materialize in the first half of the year – the Bank of Canada was the first G7 central bank to reduce rates in June. To preserve credibility, central banks have been moving cautiously after being criticized for their slow response to rising inflation; the consequences of the 1970s still loom large.
Nobody wants a repeat of the 1970s, a time when inflation persisted for an entire decade at an average of 8 percent per year, alongside high unemployment, or stagflation.1 It was only when then-Fed Chair Paul Volcker raised rates to a whopping 20 percent by 1981 that inflation could be conquered, but not without significant pain. Today, labour markets remain resilient amid easing inflation – an enviable outcome. Consider that inflation and unemployment traditionally exhibit an inverse correlation, and multiple studies suggest that higher unemployment depresses our well-being more than inflation, in some cases up to five times as much.2
Where are the economies and financial markets headed? Looking forward, it’s worth recounting a prediction made by renowned investor Warren Buffett years ago: Expect the Dow to reach one million in 100 years.3 At first glance, this may seem like quite the assertion considering the Dow hovered at mere 100 points just 100 years ago.4 However, looking deeper at the numbers, the Dow needed to compound at less than 4 percent annually to achieve Buffett’s target at that time. Today, the S&P/TSX would need an annual return of 4 percent to reach 1,000,000 by 2124.
Yet, Buffett’s intent wasn’t to propose whether an arbitrary benchmark could be achieved. Rather, he meant to inspire confidence in future growth. History has shown that equities outperform most asset classes over time; not surprising given the general upward trajectory of corporate profits. This doesn’t imply that there won’t be challenges along the way – today, there are many. Yet, we continue to overcome these challenges because one thing hasn’t changed: the human condition to advance and grow. As investors, we shouldn’t lose sight of the growth yet to come, and we can all benefit should we choose to participate. We are here to provide wealth management strategies and support to navigate this liminal space – as we progress toward the one million mark.
