IN THIS ISSUE: The first decade of our new millennium has come and gone, and, in its wake, left burst bubbles in technology and housing, and the worst economic collapse since the Great Depression. The Noughties (as many have called the 00’s) stamped an indelible mark on history that no one saw coming, yet everyone tried to predict. With that in mind, John Nicola takes a turn at positing what the next decade may have in store.
Ten years ago we not only welcomed a new decade, we celebrated the beginning of a new century and millennium. Unless those anti-aging pills work extremely well, it’s unlikely I will see another milestone like that.
We seem to like names for our decades. However, the first two decennial periods of every century have always been a challenge. After all, the twenties were roaring and the sixties were swinging, but what do we call this first decade – the Zeros? And what about the next decade – the Tens?
There have been a number of better suggestions for the last ten years, but for my money “the Noughties” describes this decade the best. Trust the English to come up with multiple ways to say nothing (as in nil, love and nought). My vote for our new decade (at least the first half) would be “the Tweens.” Tolkien used the term Tween to describe a hobbit between the ages of 20 and 32, but for the rest of us, it was that last respite of peace before our children became teenagers.
Every January we tend to reflect on the year past and make predictions and resolutions (neither of which occur). This tendency is more pronounced when decades end, and of course, was de rigeur when the Noughties began because of the centennial and millennial celebrations.
Before we begin gazing into our crystal ball, we would be well to remember Yogi Berra’s admonishment:
“Predictions are hard to make — especially about the future.”
When 1999 ended, the financial world looked like this:
- The Canadian dollar entered 2000 at $0.69 U.S. on its way down to a record low of $0.61 U.S. in January 2002. Ten years earlier it was just under $0.90.
- Equity markets were on a tear that had lasted for the better part of two decades. The S&P 500 had risen from 107 in 1982 to 1470 by the end of 1999. The NASDAQ rose 75% in 1999 alone.
- Y2K was going to destroy computers’ ability to calculate and doom us to an existence of foraging for food and reading by whale oil lamps.
- Oil started the new millennia at just over $25/barrel and gold was $290/oz.
- 5-year GICs were paying 5.5% and that meant that new mortgage rates were just over 8%. (Just think what that would do to housing markets today.)
So please keep in mind the above and then imagine having made the following predictions for the Noughties on January 1, 2000.
- The Canadian dollar will be worth more than the U.S. dollar and end the decade at $0.96.
- Oil prices will rise by over 500%, as will gold.
- Interest rates on savings will drop to virtually zero while investors will settle for just over 2.5% on 5-year government bonds.
- U.S. stocks will provide negative returns for the entire decade and will have their worst performance since returns were measured 200 years ago. (For U.S. investors, the S&P 500 index lost 26% in the Noughties vs. 16% in the 1930’s. The last decade was far worse for Canadians putting their money in U.S. markets.)
- $50-trillion dollars of wealth will vaporize as a result of the largest financial crisis since the Great Depression.
It is also good to remember some of the actual predictions for the Noughties included ones ranging from, as The Economist Magazine would say, the positive peddlars of positivism to the nattering nabobs of negativism. Both would be proven wrong.
- James Glassman’s best selling book of 1999 was “Dow 36000.” We were to reach that prediction within three to five years because stocks were less risky than bonds (perhaps he was thinking of the sovereign debt of Argentina). In a perfect example of literary inflation, Charles Kadlec wrote a competing tome that explained to us why the Dow would get to 100,000 by 2020. Where are they now I wonder?
- Sherry Cooper, a well-read economist for BMO, offered her opinion to the CBC in November 2001 (two months before the Canadian dollar traded at its lowest ever level of $0.617 US). Feeling that the U.S. dollar was simply too strong for us, she called for adopting a common currency with the U.S., saying “Let’s dollarize and get it over with while we still have something to bargain with.” Over the next seven years, our dollar would climb back to par.
And how did different asset classes perform in the last ten years?
As you can see from the chart below, good positive returns were very hard to come by. Most equity markets spent the decade in the financial outhouse. Gold was a standout and was not the “barbarous relic” that Keynes referred to. Other than that, making a buck was tough. Even if one had diversified by putting 10% into each asset class, the net return for the decade would have been 3.5% /yr after fees; only 1.5% more than the CPI of 2%.
We started the decade as we finished it: focusing on a combination of diversification and cash flow. In relative terms, it worked well. Our average client account earned 6.5%/yr after fees for the Noughties (values as at Sept 2009). Perhaps less than we might all wish for, but good enough to beat inflation by more than 4% annually (which is, in fact, the long-term rate of return on a balanced portfolio of assets over the last century).
So now we come to the part I like the least: the predictions. Favourable trends and probable outcomes won’t turn the rest of this article into an excerpt from Nostradamus’ prophecies, but it offers, at its best, some educated guesses.
In early 2000, we sent a newsletter much like this one to clients called the “Madness of Crowds.” It was in reference to the internet bubble occurring at that time. Little did we realize that before the decade was over, that bubble would be dwarfed by one in housing and toxic financial products.
In looking back on that memo the last sentence seems very relevant today: “Wealth is not made by chasing returns; it is made by finding bargains and having the patience to wait for them to be realized by others.”
It is also important to remember that while we write of markets and asset classes, we are in fact investing in specific assets that we feel provide good value and, in most cases, strong and stable cash flow. While I might be quite negative about equity markets overall, I still want to own great companies whose stocks are traded in those markets.
So what do I see for the Tweens?
Mark Twain could have been writing about the U.S. today when he said: “Rumours about my death have been greatly exaggerated.” We are all aware of what appears to be the inevitable decline of the U.S. and their massive deficits stretching out into the future as far as the eye can see. However, I would suggest that they also have a few things working in their favour:
- Their overall debt is far less than many other countries with relatively strong currencies (Japan, Italy, Greece and Ireland to name just a few).
- They have strong demographics and a much younger population than most other OECD countries.
- They have an ability to self-correct.
- They are still the most attractive destination in the world for immigrants (although Canada is up there as well).
- The U.S. has 13 of the top 20 universities in the world according to the 2009 QS World University Rankings.
Of course there are many issues for them (not the least of which include health care, savings rates and the trade deficit) and the developing world will grow faster. But I would suggest the U.S. will still be home to many of the world’s leading companies for decades to come.
In spite of massive increases in government debt around the world, I expect to see inflation and interest rates remain low for at least the first half of this next decade. My main reasons include:
- Aging populations will save more and spend relatively less in the developed world.
- The massive increase in the global labour force that started with the fall of the Berlin Wall has not finished. Most of that labour works for a better life and that will keep wages lower than would have otherwise been the case. It will also keep unemployment in the West higher than normal for an extended period of time. This is also a wage suppressor.
- We are still deleveraging some of the excesses of the Noughties. Reducing debt tends to be deflationary.
Having said that, rates will rise eventually and that will be bad news for long-term government bond investors.
- Emerging markets outperform developing ones, but end the decade with a new set of liabilities as their own populations start to age and their new wealth increases citizens’ demands for health care, education and pensions (welcome to our world).
- Peak Oil finally arrives and makes alternative energy viable and politically desirable. The world is unlikely to reduce its demand for energy, but it will develop better and smarter ways to use it.
- Health care has the potential to turn from a liability to an asset, and, for Canada, a great way to earn foreign currency. As the world both ages and becomes wealthier, we will choose to spend more of our income on staying healthy.
These are some of the themes we see playing out in the next decade. From an investment perspective, we will continue to look for quality assets that generate cash flow. Opportunities in alternative energy, health care and private equity will work well along with strong income-producing real estate and well-run public companies with good prospects for dividend growth.
If we really want to know how events will unfold, we need Doc Brown to give us the flux capacitor he provided Marty McFly in Back to the Future. In the meantime, we can paraphrase that age old golfing cliché: