3. A Century of Stock-Market History

(EN: The present edition of this book was printed in 1972, so the "century" to which the author refers is 1871-1972.)

I would be prudent for the investor, who individually holds a portfolio of common stocks that represent a small cross-section of the market, to have an understanding of the market in general to have a basis for assessing he attractiveness of the market at various times.

With this in mind, the author will consider the data on prices, earnings, and dividends during the past 100 years, though the material for the first half of this period is not as full or dependable as it became in later years, it will suffice for a general analysis.

As his basis, he will consider the study by the Cowles Commission which dates back to 1870, which later evolved into the Standard & Poor's index, as well as the Dow Jones Industrial Average, which dates back to 1897.

When considered on an annual basis, the fluctuations in the market show a series of bull and bear cycles - some period of dramatic growth followed by a period of equally dramatic decline, generally reducing value to nearly the level it had been prior to the growth period before resuming the cycle, and also generally on about a five-year period between lows.

When consolidated into decades, the full-decade figures smooth out year-to-year fluctuations - and of note, only two of the nine decades show a decrease in earnings and average prices and no decade shows a decrease in average dividends.

It's noted, with some concern, that the price of stocks have grown disproportionate to corporate earnings - in 1949, the S&P stocks traded at an average of 6.3 times earnings, and buy 1961 the ratio was 22.9 times - whereas dividend yield has fallen from over 7% to only 3% during the same time period.

The Stock Market Level in Early 1972

The author considers the level of the stock market at the time the book was written, to evaluate whether it is "too high" for a conservative investor to purchase into. While the information will be outdated even by the time the book was published, it illustrates the sort of analysis that can be followed at any time - and reduced to the level of a given security to determine whether it is favorable.

Essentially, he considers the closing price of the market, the amount it has gained in the current year, the average earnings of the last three years, the dividend paid in the current year, the current interest return of high-grade bonds, to yield:

  1. Price times earnings for the current year
  2. Price times earnings in the past three years,
  3. Total return (earnings and dividends) of the past three years
  4. The ratio of stock earnings to bond yield
  5. The earnings to book value

Ultimately, comparing the first two figures indicates whether the stock is performing better or worse than its own average comparison, the comparison of the third to the fourth determines whether it is a better investment than bonds, and the fifth indicates the level of risk due to fluctuations in price (the lower, the better).

Detailed explanation is given for the rationale of each, but it seems largely self-evident.