A comparative look at the economy and markets of 1987 vs. today, plus a review of sector performances during three crash-related periods
During the coming days, several market veterans will relive their experiences of the October, 1987, stock market crash, selectively recalling—and most likely embellishing—the events leading up to the crash, and whether they were the ones who called the top and advised everyone to get out. Let me say up front that I was relatively new to Wall Street at the time; I managed no one's money and had none of my own, so I was swept up by the magnitude of the event with the enthusiasm of an historian who was happy to be alive during "interesting" times.
In this article, I won't revisit catalysts or emotions of the day, but I will take a comparative look at the economy and markets of 1987 and today. I will also review sector performances during the three periods related to the crash: 1) performances in the eight months leading up to the top of the market in August, 1987; 2) the subsequent bear market through December, 1987; and 3) the eventual recovery more than a year-and-a-half later in July, 1989.
Changing Rules of Thumb
Whenever I look at historical levels for equity prices, I always remark, "Were they THAT low?"—this says a lot for being a long-term investor. Back at the end of the third quarter of 1987, the Dow Jones industrial average (DJIA) was 2,596, which makes the magnitude of the Oct. 19 decline of 508 points all the more sobering. With the DJIA at 13,896 as of the end of the third quarter of 2007, a 22.6% decline—what the DJIA experienced on Oct. 19, 1987—equates to a drop of 3,165 Dow points today. Since then, however, the DJIA has posted a compound annual growth rate (CAGR) of 8.7%.
During this same 20-year span, the Standard & Poor's 500-stock index was trading at 322 vs. 1,554 today, and posted an 8.1% CAGR, with similar results for the other major indexes: Russell 2000 (171; 805; 8.1%) and the Nasdaq (444; 2,702; 9.4%). Back in 1987, the S&P 500 was sporting a trailing 12-month GAAP (or "as reported") price-to-earnings ratio of 20.3 times, vs. the 17.9 times multiple we see today.
In addition, the dividend yield for the S&P 500 was 2.69% vs. the 1.77% today. Because of the market's then-low yield, a short-lived rule of thumb became: below 3%, get worried; below 2.7%, get out! That obviously is not a rule that is used much anymore.
Ups and Downs
Other interesting comparative levels include U.S. gross domestic product (GDP): The economy has more than doubled in the past 20 years and posted a compound rate of growth of nearly 4%. Inflation, as measured by the headline consumer price index, has risen 3% per year, but gained less in the past 12 months than it did in 1987. Gold, while being 60% higher today than in 1987, has risen by less than the rate of inflation over the same period. Prices for the benchmark West Texas Intermediate grade of crude oil, however, have skyrocketed from $18.50 per barrel in 1987 to more than $81 per barrel today, posting a 7.7% CAGR—more than inflation and the growth of U.S. GDP, but less than the appreciation of the S&P 500 price or its earnings.
The yield on the 10-year Treasury note today is about half of what it was in 1987, and the Fed funds rate is 250 basis points lower today than 20 years ago. Lastly, in a surprise to almost no one, the value of the U.S. dollar today vs. a trade-weighted basket of foreign currencies is 21% below 1987's level.
Industry Price Performances
Now that we have a better understanding of comparative economic and equity benchmark levels, let's review the price performances for industries in the S&P 500 during three periods in a simple time line to get a better feel for industry leaders and laggards in the eight months leading up to the peak for the S&P 500 in 1987 (specifically analyzing data from December '86 through August '87), followed by the market's decline from its high in August '87 through its bottom in early December '87, and then from the bottom until all that was lost in the bear market was recovered by late July '89.
S&P did not compute sector-level data before 1990, and industry-level statistics were retained only on a month-average basis, so look at the accompanying results as a general indication of performances, rather than as exact measurements of daily closing results. As the S&P 500 progressed from the start of 1987 until late August, when it topped out, five of the 10 best performing industries came from the materials sector: Aluminum, Containers, Copper, Gold, and Steel. The Industrials group had two representatives: Machinery and Waste Management. The worst performing sector was Financials with eight of the 10 laggards, possibly, in our opinion, as the Fed had been on a modest rate-tightening program since December, 1986.
The 1987 bear market erased 33.5% of the value of the S&P 500 in 101 calendar days, and was the second most rapid bear market since 1945, next to the 84 days it took the S&P 500 to decline 20% in 1990. During the '87 meltdown, all of the 73 industries in the S&P 500 posted declines.
Those industries that declined the least were spread among the Consumer Staples, Info Tech, and Utilities sectors. The worst performers—and I mean worst, as they fell from 37% to 64%—came primarily from the Consumer Discretionary group, with Financials and Industrials having their fair share of representatives. Yet once the bear had run its course, and the market was on the mend, industry leadership came from the previously pounded Consumer Discretionary sector (with five industries), along with the Consumer Staples, and Industrials sectors, which had two each. The groups that did not fare so well in the recovery period—three even posted declines—were mainly from the Industrials and Information Technology sectors.
So there you have it. Even though many in October, 1987, saw barbarians at the gate, forward-looking investors saw opportunities too good to pass up. Today they can savor the wisdom of their actions.
Industry Momentum List Update
Here is this week's list of the industries in the S&P 1500 with Relative Strength Rankings of "5" (price performances in the past 12 months that were among the top 10% of subindustries in the S&P 1500), along with a stock with the highest S&P STARS (tie goes to the highest market value).
S&P STARS Rank
Auto Parts & Equipment
Johnson Controls (JCI)
Lyondell Chemical (LYO)
Construction & Engineering
Jacobs Engineering Group (JEC)
Construction & Farm Machinery
Trinity Industries (TRN)
Diversified Metals & Mining
Freeport-McMoRan Copper & Gold (FCX)
Fertilizers & Agr. Chem.
Air Products & Chemicals (APD)
Oil & Gas Drilling
Oil & Gas Equip. & Svcs.
Schlumberger Limited (SLB)
Tires & Rubber
Goodyear Tire & Rubber (GT)
Source: Standard & Poor's Equity Research