Michael Phelps is arguably the best modern-day Olympian. No other athlete comes close to his record of winning twenty-eight medals over five Olympic games. Twenty-three of those twenty-eight medals were gold. In his career, Phelps set thirty-nine world records. But today, only four of those records still stand! It is astonishing that such a revered swimmer saw most of his world records beaten within five years of retirement. As the saying goes, records are meant to be broken.
The stock market also loves to set new records. In July, the S&P 500 surpassed 4,422 to set yet another record. This is something that has happened a lot recently. Global stocks have set new record highs in eight of the eleven months since August of 2020.
The financial media loves to report records because they are exciting and suggest a sense of uniqueness to this moment in time - never before have stocks reached this level! News of record stock prices also stokes a sense of fear about this new uncharted territory.
However, record stock prices occur more often than you might think. Since 1928, the S&P 500 reached new highs over 19% of the time and spent over 37% of the time within 5% of the previous high.
Is this because investors are consistently getting too excited about stocks, setting up for the eventual pullback and occasional “crash”? Not exactly. Since 1960, large US companies have grown profits at a 6.5% compound annual growth rate. While stock prices fluctuate much more than earnings, this earnings growth provides the underlying basis for growth in share prices. More earnings mean more dividends to pay or, if reinvested in the company, yet more earnings and dividends in the future.
None of this is to say stock returns are certain. In fact, the uncertainty of it all may also be a key feature as to why returns have been so good. If we all knew for certain the economy would grow and companies would be profitable in the future, stock prices might rise too high, reducing future gains in the process. The future remains cloudy, fraught with worry over what unexpected event may strike next. For those willing to look beyond the inevitable harrowing moments, the rewards have been there.
What It All Means
Economic growth, technological innovation, and the entrepreneurial spirit provide the basis for stock market gains. It doesn’t happen all at once. But it’s why long-term investment in stocks benefits from economic growth. Do growth and innovation support new sporting records? It’s harder to believe swimmer’s physiology, technique, and technology have improved since Phelps’s retirement. But perhaps the same economic motives may drive the quest for fame and gold.
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