There’s lots of talk about the weakness in the economy. After all, earnings are shrinking, buybacks are fueling market gains and stocks are richly valued.
Fortunately, we are on well-trod ground.
Back in 1989, pundits vigorously debated whether low interest rates could support higher P/E ratios. Market conditions then were similar to now in other ways, as the ’89 rally was concentrated in just a few stocks and small-cap growth was being outpaced by its large-cap siblings.
As it turned out, the market hit a few air pockets in 1989. Nervousness over earnings growth was a culprit in the demise of an attempted United Airlines takeover. Eastern Airlines declared bankruptcy that year, due to a host of factors, including the collapse of the junk bond market. And the October 13, 1989 “Friday the 13th” minicrash caused the market to lose over 6% of its value in one session.
The economy then entered into an earnings slowdown in 1990. Questions about Fed policy, higher taxes and unstable bank regulatory changes put traders on the defensive.
Even so, those angst-ridden times didn’t do much damage. The Dow ended up losing about 4% in 1990, and then started an epic bull run from 1991-99 as earnings finally found their footing.
Are we in for the same gains going forward? That’s an unknown, of course. But it should be clear that when all the facts support a weaker economy, that doesn’t necessarily mean the end of line for the bulls.