Odds are good the stock market will be higher in 12 months’ time.
The probabilities are two out of three, in fact.
These odds are not based on any privileged insight into whether the economy will experience a soft landing, the future course of the Federal Reserve’s interest rate policy, or anything else for that matter. They instead are based on the historical tendency of the stock market to rise in two out of every three 12-month periods—regardless of whether those periods come in the wake of a roaring bull market or a punishing bear market.
To calculate these odds, I focused on the stock market’s inflation-adjusted total return since 1871, courtesy of data compiled by Yale University’s Robert Shiller. On average across all 12-month periods over the last 150+ years, the market rose 69.2% of the time—very close to two out of three. That’s the baseline.
I next compared that baseline to the percentage of positive one-year returns following months in which the stock market had declined over the trailing year. For this subset, the percentage was essentially the same at 70.4%.
What this means: The odds the market will rise over the next 12 months are no different just because the market today has declined over the last year. (The assumption underlying this statement, as with all others in this column, is that the future will be like the past. If that assumption is wrong, then all bets are off anyway.)
This conclusion can seem too good to be true. So, to stack the deck against confirming this conclusion, I next focused on all months since 1871 in which the market was down over each of the trailing 1-, 3-, 6- and 12-month periods. On average, over the year subsequent to these woeful months, the stock market rose 65.4% of the time. The difference between this percentage and my baseline is not statistically significant.
Market efficiency
While you may be surprised by results such as these, you shouldn’t be. It is exactly what is expected from an efficient market: It will rise or fall at any given time to whatever level leaves it with roughly the same probability of rising. For example, if the odds the market will rise over the next year were to fall significantly below two out of three, then the stock market would fall today to reflect those reduced odds—rather than wait. It would stop declining when the odds have risen to be more or less equal to the historical baseline.
While there is nothing set in stone about two-out-of-three odds in particular, these roughly are the odds the U.S. equity market has set over more than a century. We should not expect these odds to change significantly from year to year. And that’s exactly what I found.
A good analogy is to flipping a coin: The odds of flipping a heads are the same regardless of whether you have previously flipped five heads in a row or five tails in a row. To think otherwise is to be guilty of what is known as the “gamblers’ fallacy.”
This isn’t to say that the stock market and coin flipping are equivalent. But it is the case that playing the stock market over the short term is essentially gambling.
This is why our moods are so unreliable a guide to investing. Our attitude toward the market’s 12-month prospects should be the same today as a year ago, even though the S&P 500
SPX,
in October 2021 was sitting on a dividend-adjusted 36.1% trailing 12-month gain—in contrast to a 15.0% loss currently.
So cheer up!
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at [email protected].
Source: https://www.marketwatch.com/story/will-the-stock-market-be-higher-in-12-months-here-are-the-odds-11666975125?siteid=yhoof2&yptr=yahoo