Morningstar Advisor - February/March 2009 - 28

Spotlight Déjà Vu All Over Again By Paul D. Kaplan When risk models fall short, advisors need to look no further than the historical record to plan for the next 100-year flood. “We seem to have a once-in-a-lifetime crisis every three or four years.” —Leslie Rahl, founder of Capital Market Risk Advisors1 The dramatic events on Wall Street and in financial centers around the world that started on “Black Sunday,” Sept. 14, have upset many common assumptions about the global financial system. What started as a mortgage crisis spread to nearly every corner of the financial system when Lehman Brothers collapsed, Merrill Lynch sold itself to Bank of America, and AIG became strapped for cash—all in a single weekend. These and the events that followed have shaken investor confidence to the core. As of Dec. 31, the Dow Jones Industrial Average was down 22.4% since Black Sunday. The yield spread on junk bonds over LIBOR reached an unprecedented 16%. The markets for many assets have become illiquid, and credit is dried up for nearly anyone who needs it. The U.S. Federal Reserve, the U.S. Treasury, and their counterparts around the world have taken dramatic steps to restore liquidity to asset markets, stimulate lenders to make loans again, shore up investor confidence in equity markets, and avoid a deep global recession. If you need to be reminded how bad things are, listen to our political and fiscal-policy leaders as they describe the crisis with phrases that begin with the ominous words “once in a … .” As they were pushing their $700-billion bailout package last fall, members of the Bush administration said that the crisis was a “once-in-a-century event,” and this was echoed in November by Henry Paulson, the former secretary of the U.S. Treasury, who said the meltdown was a “once- or twice-in-a-100-year event.” Former Federal Reserve chairman Alan Greenspan characterized the crisis as a “once-in-a-century credit tsunami.” There’s little doubt that aspects of this crisis are unique and that the economy is facing its hardest challenge since the Great Depression, but are severe economic crises the rare events Paulson, Greenspan, et al., have suggested? A study of capital market history suggests no. To see this, you need to look no further than the Ibbotson Stocks, Bonds, Bills, and Inflation poster from Morningstar hanging on your wall. Take, for example, the poster’s depiction of the compound annual return of the S&P 500 Index, identified on the chart as Large Stocks.2, 3 The growth of $1 to $2,049 over 83 years is impressive (a rate of 9.6% per year), but the record is peppered with several long and severe declines, some in the not-toodistant past. To illustrate our point, we isolated the S&P 500 line of the poster and added blue areas that show the highest level that the cumulative value of the S&P 500 had achieved as of that date (Exhibit 1). Wherever a blue area is shown, the S&P 500 was amid a decline relative to its most recent peak. The deeper the gap, the more severe the decline; the wider the gap, the longer the time until the S&P 500 returned to its peak. Wherever a blue area is not shown, the S&P 500 was climbing to a new peak. Not surprisingly, the granddaddy of all market declines started with the Crash of 1929 and did not recover until 1945. The S&P 500 lost more than 83% of its value in about three years and took 121/2 years to recover. What may be 1 As quoted by Christopher Wright, “Tail Tales,” CFA Institute Magazine, March/April 2007. 2 We obtained the historical monthly total returns from Morningstar EnCorr, an institutional asset-allocation software and data package. 3 We use a logarithmic scale for all growth of $1 charts. 28 Morningstar Advisor February/March 2009

Morningstar Advisor - February/March 2009

Table of Contents for the Digital Edition of Morningstar Advisor - February/March 2009

Morningstar Advisor - February/March 2009
Contents
New on MorningstarAdvisor.com
Letter from the Editor
Contributors
Inbox
How Do You Gauge and Measure Risk?
No Skinny-Dippers Here
Heading to Shore
Investment Briefs
Weapons of Mass Destruction?
Déjà Vu All Over Again
A Failure to Gauge Risk
Five Areas to Find Opportunities
Getting a Read on Risk
Heavenly Returns
Greenspring Comes to the Rescue
How to Spot a Trustworthy REIT
Four Picks for the President
Find Succor in These Large Dividends
These Stocks Are Fiscally Fit
Mutual Fund Analyst Picks
50 Most Popular Equity ETFs
Undervalued Stocks
Most Popular Variable Annuities
New at Morningstar
You Gotta Look Sharpe
Morningstar Advisor - February/March 2009 - Intro
Morningstar Advisor - February/March 2009 - Morningstar Advisor - February/March 2009
Morningstar Advisor - February/March 2009 - Cover2
Morningstar Advisor - February/March 2009 - 1
Morningstar Advisor - February/March 2009 - 2
Morningstar Advisor - February/March 2009 - Contents
Morningstar Advisor - February/March 2009 - 4
Morningstar Advisor - February/March 2009 - 5
Morningstar Advisor - February/March 2009 - New on MorningstarAdvisor.com
Morningstar Advisor - February/March 2009 - 7
Morningstar Advisor - February/March 2009 - 8
Morningstar Advisor - February/March 2009 - Letter from the Editor
Morningstar Advisor - February/March 2009 - Contributors
Morningstar Advisor - February/March 2009 - Inbox
Morningstar Advisor - February/March 2009 - How Do You Gauge and Measure Risk?
Morningstar Advisor - February/March 2009 - 13
Morningstar Advisor - February/March 2009 - No Skinny-Dippers Here
Morningstar Advisor - February/March 2009 - 15
Morningstar Advisor - February/March 2009 - 16
Morningstar Advisor - February/March 2009 - Heading to Shore
Morningstar Advisor - February/March 2009 - 18
Morningstar Advisor - February/March 2009 - 19
Morningstar Advisor - February/March 2009 - Investment Briefs
Morningstar Advisor - February/March 2009 - 21
Morningstar Advisor - February/March 2009 - Weapons of Mass Destruction?
Morningstar Advisor - February/March 2009 - 23
Morningstar Advisor - February/March 2009 - 24
Morningstar Advisor - February/March 2009 - 25
Morningstar Advisor - February/March 2009 - 26
Morningstar Advisor - February/March 2009 - 27
Morningstar Advisor - February/March 2009 - Déjà Vu All Over Again
Morningstar Advisor - February/March 2009 - 29
Morningstar Advisor - February/March 2009 - 30
Morningstar Advisor - February/March 2009 - 31
Morningstar Advisor - February/March 2009 - 32
Morningstar Advisor - February/March 2009 - 33
Morningstar Advisor - February/March 2009 - A Failure to Gauge Risk
Morningstar Advisor - February/March 2009 - 35
Morningstar Advisor - February/March 2009 - 36
Morningstar Advisor - February/March 2009 - 37
Morningstar Advisor - February/March 2009 - Five Areas to Find Opportunities
Morningstar Advisor - February/March 2009 - 39
Morningstar Advisor - February/March 2009 - Getting a Read on Risk
Morningstar Advisor - February/March 2009 - 41
Morningstar Advisor - February/March 2009 - 42
Morningstar Advisor - February/March 2009 - 43
Morningstar Advisor - February/March 2009 - 44
Morningstar Advisor - February/March 2009 - 45
Morningstar Advisor - February/March 2009 - 46
Morningstar Advisor - February/March 2009 - 47
Morningstar Advisor - February/March 2009 - Heavenly Returns
Morningstar Advisor - February/March 2009 - 49
Morningstar Advisor - February/March 2009 - 50
Morningstar Advisor - February/March 2009 - 51
Morningstar Advisor - February/March 2009 - Greenspring Comes to the Rescue
Morningstar Advisor - February/March 2009 - 53
Morningstar Advisor - February/March 2009 - 54
Morningstar Advisor - February/March 2009 - 55
Morningstar Advisor - February/March 2009 - How to Spot a Trustworthy REIT
Morningstar Advisor - February/March 2009 - 57
Morningstar Advisor - February/March 2009 - Four Picks for the President
Morningstar Advisor - February/March 2009 - 59
Morningstar Advisor - February/March 2009 - Find Succor in These Large Dividends
Morningstar Advisor - February/March 2009 - 61
Morningstar Advisor - February/March 2009 - These Stocks Are Fiscally Fit
Morningstar Advisor - February/March 2009 - 63
Morningstar Advisor - February/March 2009 - Mutual Fund Analyst Picks
Morningstar Advisor - February/March 2009 - 65
Morningstar Advisor - February/March 2009 - 66
Morningstar Advisor - February/March 2009 - 67
Morningstar Advisor - February/March 2009 - 50 Most Popular Equity ETFs
Morningstar Advisor - February/March 2009 - 69
Morningstar Advisor - February/March 2009 - 70
Morningstar Advisor - February/March 2009 - 71
Morningstar Advisor - February/March 2009 - Undervalued Stocks
Morningstar Advisor - February/March 2009 - 73
Morningstar Advisor - February/March 2009 - 74
Morningstar Advisor - February/March 2009 - 75
Morningstar Advisor - February/March 2009 - Most Popular Variable Annuities
Morningstar Advisor - February/March 2009 - 77
Morningstar Advisor - February/March 2009 - 78
Morningstar Advisor - February/March 2009 - New at Morningstar
Morningstar Advisor - February/March 2009 - You Gotta Look Sharpe
Morningstar Advisor - February/March 2009 - Cover3
Morningstar Advisor - February/March 2009 - Cover4
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