by Gary Alexander

May 11, 2021

What’s your worst market fear? A big correction, a crash of 20% or more? Long-term investors have nothing to fear. Nearly every major downturn has been followed by an opposite but equal upturn.

Call it “reversion to the mean” or “Newton’s law of Thermodynamics” or simply “a return to our senses.”

In early May 2009, I began contributing to Louis Navellier’s MarketMail. My first essay covered the rapid growth in China (see last week’s GrowthMail). My second article was entitled, “The Worst Crash Since 1929 Implies the Best Recovery since 1932.” That headline was so controversial that it prompted USA Today’s financial markets editor Matt Krantz to call me and ask, “How can you be so sure?”

At the time, my prediction sounded too good to be true. The Dow was mired at 8,285 when Matt called. The baby bull was fragile, only two months old, but I laid out the record of earlier mega-crashes in 1929-32, 1974, 1987, and 2002.  Each gave birth to historically strong recoveries – a restoration to the mean.

Huge crashes always precede huge recoveries – and something just like that happened all over again in the last 13 months. The stock market went down way too fast from February 18 to March 23, 2020, so a “reversion to the mean” implied an equally powerful and rapid move upward. It’s the financial version of Newton’s Third Law of Thermodynamics: “For every action, there is an equal and opposite reaction.”

Back in 2009, it took almost two years for the S&P 500 to double from its low. On February 18, 2011, the S&P 500 closed at 1343, finally doubling from its 666 low of March 6, 2009. At the time, The Wall Street Journal called it “the fastest doubling since 1936.” Small stocks did even better: The S&P 400 MidCap and 600 SmallCap indexes were up 139% in those 23+ months. In the latest recovery, some indexes have already doubled in the 13.5 months since March 23, 2020, while the Dow and S&P 500 are up over 90%.

 Index   March 23, 2020 Low   Recent High   2021 High   Gain since March, 2020
 Russell 2000    966.42    2,360.17    March 15    +144.2% in 11.7 months
 NASDAQ Composite    6,631.42    14,211.57    April 29   +114.3% in 13.2 months
 S&P 500    2,191.86    4,238.04    May 7    +92.5% in 13.5 months
 Dow Jones Industrials    18,213.65    34,811.39    May 7    +91.1% in 13.5 months
 Data Source: Yahoo Finance

Why such a rapid rebound? The first look at first-quarter GDP came in at +6.4%. The Atlanta Fed sees second-quarter GDP at 11%, but that is a rapidly changing real-time estimate. Economists surveyed by IHS Markit see a more realistic target of 8.3%. The highest full-year growth rate of the last 70 years was 7.2% in 1984. If we exceed that, 2021 could be the best year in 70 years, since Truman was President.

The onset of the Korean War in 1950 pushed the economy up to 8.7% growth rate in 1950 and then 8.0% in 1951, but that was based on a nominal GDP of just $300 billion, or about 1.5% the size of today’s economy. (Adjusted for inflation, the 1950 economy was closer to $2.3 trillion in today’s dollars.) But growing a $20 trillion economy at 7% is far more difficult than growing a $2 trillion economy at 8%!

Who Will Win the 21st Century – China or the U.S.?

Now let me return to last week’s big question – Who will “win” the 21st century? When you compare raw numbers, you have to ask: What good does it do for America to grow 5% or 6% a year if China can grow 10% to 12% a year? It now seems certain that China will someday surpass the U.S. in GDP, but bear in mind that they have four times as many people – so their per capita GDP would still be 75% below ours.

These kinds of questions deliver a huge wave of “Déjà vu” to me. In the 1980s, it seemed like everyone was saying Japan would pass the U.S. by the year 2000. In fact, I was among the first economic writers to take such a position – in late 1967, fresh out of college. I was hired by a national magazine and joined a senior writer there to assemble a series of three surveys of the Economy of the Rising Sun. I did all the economic research and writing for the 7-page opener, “Japan: Industrial Supergiant,” rife with charts and data on trade and ship tonnage. My co-author wrote a second essay, “Japan’s Feet of Clay,” predicting their ultimate fall. Together, we wrote “Japan’s New Role in Asia,” so before Japan’s rise, we foresaw its fall, based on demographic flaws (few children, fewer immigrants), vertical (closed) corporate zaibatsu, and huge debt: Japan now has a 230% debt-to-GDP ratio, and an economy addicted to zero-interest loans.

Will China fall to some of these same “feet of clay” flaws in the future? I think so. Like Japan, and our own growth recently, too much of China’s growth is financed by debt and an outpouring of cash from the central government. In fact, the government there is far more over-extended than ours, and they are skating on far more speculative ice when it comes to financing their state-owned enterprises (S.O.E.s).

China is flirting with a 300% debt-to-GDP ratio in an economy far more fragile than ours, especially since Xi Jinping launched the costly “Belt and Road Initiative” in 2013. Bloomberg has been charting China’s debt leverage since 2014: It has clearly risen during the pandemic of 2020 – its greatest surge since 2015:

China's Debt to Gross Domestic Product Ratio Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

China desperately needs trade and growth to keep its debt machine fed. Think Bernie Madoff – “Must find new clients.” China’s trade has kept them growing. Every nation keeps a “balance of payments” account, and those accounts must balance across borders. For every Chinese export, there must be an equivalent import in some other nation. The same is true for internal consumption. Their new buildings and roads are clearly visible to any visitor, but are those structures used profitably and well? That is another question.

Also, I don’t think China will ever grow by double digits again. When China was smaller (like when I visited there in 1996), double-digit growth was almost easy. You can grow 10% a year from a base of $1 billion quite easily, but it’s much harder from a $10 billion base. In 2016, my friend and old China hand Robert Lawrence Kuhn wrote of the discontent in China when their annual growth rate slipped below 7%.

Ten years ago, in 2006, when China’s growth rate was a robust 12.7%, everyone was happy – count on China to drive world economic growth! Now everyone is on edge about China. But consider this: the GDP base is far bigger. In 2005, China’s GDP was $2.3 trillion, and 12.7% growth meant an increase of under $300 billion in 2006.

Fast-forward ten years. In 2015, China’s GDP was $11 trillion, and 6.5% growth would mean an increase of over $700 billion in 2016 – more than twice the absolute amount the economy grew in 2006 when the growth rate was that happiness-engendering 12.7%. And since China’s population in 2016 is only marginally more than it was in 2006, the absolute amount of GDP growth per capita will be well more this year than it was a decade ago.
–Robert Lawrence Kuhn, “Understanding China’s Economy,” CCTV, December 12, 2016

The same math is true in America, of course. The larger the economy, the more difficult it is to grow fast.

China's Economy in Two Charts

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Despite rapid GDP growth, China’s stock market performance has been nowhere near as impressive as the U.S. equivalent, reflecting the fact that the vast array of their companies are not organized as clearly for the benefit of the shareholder as are most U.S. equivalents – with notable exceptions, of course.

Here’s how the two markets compare in the decade from the Great Recession to the onset of COVID (mid-2009 to mid-2019). China’s market was flat, while the S&P 500 tripled, so investors must ask: What did all those double-digit annual economic gains do for most Chinese (or overseas investors in China)?

Standard and Poor's 500 Index versus Shanghai Composite Index Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Who will win? We’re not in this world alone. We need allies. China is alienating almost everyone. We shouldn’t do the same. In 12 key nations, a single question was asked between 2002 and 2020. With few exceptions, there was a sharp rise in unfavorable views of China since 2015 (i.e., under Xi Jinping).

Negative Evaluations of China Across Advanced Economies Charts

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Who will win? In the end, it will come down more to the quality of growth than the quantity, and that includes the quality of life. China has cleaned up some of its cities, but it still has nine of the 25 most polluted air quality conditions among world cities. (India now leads with four of the worst five cities.) Each nation is home to 1.4 billion people. Overcrowding is a serious challenge, but having fewer children poses an opposite challenge – who will work to support the elderly? China is also still a command-and-control Communist economy with severe human rights abuses and ongoing fraudulent trade practices amid a growing military buildup, so the question of who will “win” takes on greater import. America has its challenges, too – do we really want to grow and stay #1? – but the world would be better off if we did.

All content above represents the opinion of Gary Alexander of Navellier & Associates, Inc.

Please see important disclosures below.

About The Author

Gary Alexander

Gary Alexander has been Senior Writer at Navellier since 2009.  He edits Navellier’s weekly Marketmail and writes a weekly Growth Mail column, in which he uses market history to support the case for growth stocks.  For the previous 20 years before joining Navellier, he was Senior Executive Editor at InvestorPlace Media (formerly Phillips Publishing), where he worked with several leading investment analysts, including Louis Navellier (since 1997), helping launch Louis Navellier’s Blue Chip Growth and Global Growth newsletters.

Prior to that, Gary edited Wealth Magazine and Gold Newsletter and wrote various investment research reports for Jefferson Financial in New Orleans in the 1980s.  He began his financial newsletter career with KCI Communications in 1980, where he served as consulting editor for Personal Finance newsletter while serving as general manager of KCI’s Alexandria House book division.  Before that, he covered the economics beat for news magazines. All content of “Growth Mail” represents the opinion of Gary Alexander

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