This Chart Predicts the Future of the Longest Bull Run in Stock Market History

If you want to know the future of something, very often you have to trace it to its beginnings.

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On March 9th, 2019, the longest bull run in stock market history celebrated its 10th anniversary. I wondered to myself what might eventually bring it to an end, and possibly even cause a reversal.

I decided it had to be an ‘act of God’. For the last decade mankind had managed its way out of several threats to the economy with stimulus policies. We seemed to have ‘conquered’ man-made recessions!

The only possibility left had to be Mother Nature.

A huge earthquake, a monster volcano erupts, a deadly epidemic… some kind of natural disaster that hits our economy so hard many fortunes would be lost and hordes of investors would have to liquidate their investments quickly to recover cash.

A year later, on March 12th, 2020, the Financial Times ran an article with the words “R.I.P. to the 11-year bull market”.

COVID-19 had spread from China to the rest of the world and stock markets plunged from mid-February through March as the world locked itself down in their homes and wild animals ran on our streets. The S&P500 stock index plunged 34% from its record high (struck just before COVID started).

I thought this was it…

Barely six months later, the S&P500 had recovered from the entire decline and overshot — at one point setting a new record about 5.7% higher than its previous peak.

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Source: Yahoo Finance

You know the story as well as I do — trillions of dollars in government stimulus came to the rescue.

So I was wrong…

Mother Nature couldn’t stop the stock market bull.

Then what will? Or will it never stop?

To answer that question I had a theory. To test that theory I traced the bull market back to its beginnings in early 2009, and overlaid the S&P 500 with another statistic — the amount of US government debt.

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Source: US Department of the Treasury and Yahoo! Finance

The bull run begun shortly after the US Federal Reserve first introduced ‘quantitative easing’ (QE) back in November 2008 — in response to the ’07 credit crisis.

(Quite simply put, QE is a monetary policy whereby the central bank keeps interest rates low and also inject liquidity into the financial system. In the process new money is often created to buy new government debt — so that the government can spend on economic stimulus.)

Over the next four years, the Fed unleashed QE two more times — in November 2010 and September 2012. Eventually, in 2013 the stock market got back above the pre-credit crisis levels in 2007.

Now let’s fast forward to the next six years or so.

Having gotten over the ’07 crisis, the U.S. government did not stop taking on more debt. The amount continued to increase steadily, and so did the stock market… although from 2018 onwards the stock market became more volatile as valuations got increasingly stretched.

Then in March 2020, COVID-19 triggered a sharp plunge. The government immediately came to the rescue, unleashing QE again and a US$2 trillion stimulus package, driving public debt up sharply.

By this time stock market investors had the 2008–09 experience to draw from. Stocks surged back up, reflecting investors’ expectations that QE and public spending would save the day, yet again.

In the aftermath of the 2007 credit crisis, the stock market took more than five years to climb back up to the pre-crisis level. But in 2020, the stock market took just six months!

Where do we go from here? Was the reaction from stock investors justified, or have we overshot?

To answer those questions we have to dive deeper into the charts and numbers.

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Source: US Department of the Treasury, US Bureau of Economic Analysis and Yahoo! Finance

When we add the U.S. Gross Domestic Product (GDP) to the chart across the entire period, one observation becomes clear: The stock market fell by a smaller extent due to COVID-19 compared to the 2007–08 period, although the economic impact was clearly much bigger.

Given the smaller decline and much more rapid recovery, the stock market has clearly gotten ahead of itself. It basically assumed that the super-sized stimulus package will not only work, but that the U.S. economy will exceed its pre-COVID level relatively quickly.

Does this mean the market will come back down?

No... because more stimulus is coming.

At the time of writing, the U.S. government is about to release another US$1.6–2.2 trillion dollar stimulus package. This doubles the amount committed so far, so that blue line for U.S. public debt is going to double in length at that steep angle in the months to come.

Therefore, if the relationship between public debt and the stock market continues to hold, the S&P500 will keep rising. But it will be a volatile journey, because the stock market is riding on a flood of liquidity with nowhere else to find decent yield and expectations of a sharp return to normalcy in the real economy.

Nonetheless, for as long as QE and government stimulus is expected to work, there’ll be investors waiting on the sidelines to jump on for the ride whenever there is a correction.

And so the party goes on…

PS: Has the U.S. ‘conquered recessions’? If QE is the magic pill to all economic trouble, can the economy — and hence the stock market — ever experience a sustained down cycle?

A lot more discussion about what QE is and why the U.S. government is able to create money out of thin air — and loan it to itself to spend — is needed to answer that question.

For interested readers I have tried to tackle these subject matters using allegories in the following articles:

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