Markets have a history of repeated cycles: a growing euphoria followed by crashes and then recoveries. Currently, we’re in the midst of a bull market of nearly a decade. Is the end near?
Looking back at the past four decades, we can see these cycles playing out clearly.
In the mid-1980s, we had a period of prosperity created by loose monetary policy. Stock markets rallied, with the S&P 500 Index increasing by roughly 85% between February 1985 and August 1987. But in October 1987, the markets crashed on the day known as “Black Monday,” and the Federal Reserve (Fed) stepped in to stop it.
We saw a similar situation play out in the 1990s. After Black Monday, the Fed kept interest rates low, and the economy and stock market (particularly in the technology sector) overheated. When the Fed finally started raising rates, the tech-heavy Nasdaq Composite Index fell by almost 30%.
It happened again in the 2000s. In a seemingly safe environment, the risk premia on risky assets declined, and investors piled money into the housing sector in search of yield. We all know how that ended. The equity market began declining in 2007, and the Fed stepped in again, lowering the target federal funds from 5.25% in September 2007 to below 1.0% in October 2008.
Since then, we’ve been in a prolonged period of prosperity, but, if history is any indication, it will end at some point. We don’t know when; it’s never a good idea to time the market. But it is a good idea to be prepared with a diversified portfolio.