Saturday, March 09, 2013

Dow record highs? Almost, but don't be fooled by the news

There's a lot of attention being put on "record highs" for the Dow lately, but if you're an investor you should ignore this fundamentally flawed way of looking at things.  A recent example of this is this article, which gives lots of seemingly wise, yet useless, advice like "investors should proceed, but with caution".  What does that mean exactly?

Anyway, the reason to ignore this type of analysis is that the level of the Dow is not normally adjusted for inflation, nor for dividends, which matter to you as an investor.

Instead of looking at it this way, I've been keeping track of the level of the S&P500 adjusted for inflation and assuming re-invested dividends.  The last peak for this was in September 2000 (not 2007!  See here for a set of past articles talking about this).  Based on the value of the S&P500 today, it is still 1.2% away from that record high.

What this means is that an investor who put money into stocks more than 12 years ago, and dutifully re-invested dividends the whole way, is close to breaking even in real terms.  Not great, but it's interested to note that the only time in the past ~80 years that this has happened was from January 1973 to January 1985 - 12 years, and only a little bit shorter than this time around assuming the 1.2% is crossed soon (no guarantee of that of course!).

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