The book’s premises are false and its forecasts have been wildly inaccurate. By exposing its flaws I reconfirm some basics of investment.
This year marks the 25th anniversary of James Glassman’s and Kevin Hassett’s book Dow 36,000: the New Strategy for Profiting from the Coming Rise in the Stock Market (Random House, 1999). It didn’t merely contend that stocks were grossly undervalued: it insisted that a four-fold increase of the Dow Jones Industrial Average (DJIA), from approximately 9,000 (its average early in 1999) to 36,000, was in the offing.
Specifically, Glassman and Hassett (hereafter “G&H”) contended (p. 19): “stocks should be priced two to four times higher – today.” “But,” they cautioned, “it is impossible to predict how long it will take for the market to recognise that Dow 36,000 is perfectly reasonable. It could take ten years or ten weeks.” In their very next sentence, however, they threw caution to the winds: “our own guess is … between three and five years …”
During the five years after the book’s publication, the attacks of 11 September 2001 occurred and the Dot Com Bubble burst. Did these shocks delay the realisation of G&H’s bold prediction? Did an even bigger and more unexpected (to the bulls) cataclysm, the Global Financial Crisis, further cloud and impede their prescience? Or had they been completely wrong all along?
Three things are certain. First, on 14 January 2000, a few months after the book’s publication, the DJIA reached an all-time, intra-day high of 11,723. Second, in 2002-2004 it plummeted as much as 35% (to as low as 7,592) and rose no higher than 10,783. Clearly, that was a far cry from 36,000! Although it subsequently recovered (indeed, it scaled a new record high of 14,165 in October 2007), by 9 March 2009 – a decade after the book’s publication – it had crashed 54% to 6,547.
Thirdly, not until November 2021 (that is, more than 20 years after G&H predicted it) did the DJIA briefly breach the 36,000 threshold; and not until December 2023 – almost a quarter-century after the book’s debut – has it remained continuously above it. On 16 May 2024 it reached 40,000.
Was Dow 36,000 a product of its era – that is, of the irrationally exuberant bull market and Dot Com Bubble of the mid-1990s to early-2000s? Or, despite various trials and tribulations, was it actually – as Kenneth Rogoff contends (“Why the Dow 36000 Forecast Was Right,” The Wall Street Journal, 9 September 2021) – far ahead of its time?
Others’ Assessments
Appraisals of the book vary enormously. Hamilton Nolan (“World’s Wrongest Investment Guru Still Thinks His Big Prediction Might Come True,” Gawker Media, 7 March 2013), mocked it as “the most hilariously wrong investment book of all time.”
In response to the DJIA’s substantial decline during the decade and more after the book’s publication, Nolan asked sarcastically: “what did the authors … do? Flee the country? Retire in shame? Give all their remaining assets to those investors unfortunate enough to have followed their advice? Ha, no. James Glassman is still writing op-eds and waiting for his prediction to come true” (see, for example, “Dow 36,000 Is Still Attainable Again,” Bloomberg View, 8 March 2013).
Hassett, too, remains prominent. Moreover, he’s potentially very powerful. Before 1999, he was an economist at the Fed. Since 1999, he’s been a Senior Fellow and Director of Economic Policy studies at the American Enterprise Institute, and subsequently served as economic advisor to the presidential campaigns of John McCain (2000 and 2008), George W. Bush (2004) and Mitt Romney (2012). He was also Chairman of the Council of Economic Advisers in the Trump administration from 2017 to 2019. According to The Wall Street Journal (“Trump Economic Advisers Float Three Names for Fed Chair,” 18 March 2024), Hassett has been shortlisted as a possible head of the Federal Reserve if Donald Trump wins the presidential election in November.
Paul Krugman, Distinguished Professor of Economics at the Graduate Center of the City University of New York (formerly at MIT and Princeton University), winner in 2008 of the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel and long-time columnist in The New York Times, was also scathing: “when all is said and done, Dow 36,000 is a very silly book; and the attempts of Glassman, at least, to deny the patent silliness are borderline dishonest. But I am prepared to view Hassett’s role as youthful indiscretion” (see “Dow 36,000: How Silly Is It? Undated).
Other well-known and powerful people, however, lauded it. John Bogle, who in 1999 was “senior chairman” of The Vanguard Group and is now acknowledged as the father of index investing, said in a blurb on its dust jacket: “while there will be bumps – maybe big ones – along the way and the road may be surprisingly long, Dow 36,000 offers superb advice. With an eminently readable style, the authors present sound and simple wisdom about investment principles, mutual fund selection, index funds, and asset allocation. I am impressed!”
David Malpass, who was a senior official in the U.S. Treasury under presidents Reagan, George H.W. Bush and Trump, chief economist at Bear Stearns from 1993 until its collapse in 2008 and President of the World Bank from 2019 to 2023, also extolled Dow 36,000. In 1999 he gushed: G&H’s “ideas are timely and thought-provoking. Either we are in a bubble with inefficient financial markets, or else past theories on stock prices and price-earnings multiples have to be revised. In every one of my meetings with mutual funds these days, I have to address the issue of whether stocks are overvalued. G&H’s theories make the solid case that, on average, they are not.”
Some people loved G&H’s book; others loathed it. To my knowledge, however, nobody has subjected its key assumptions, claims, inferences and predictions to detailed scrutiny. That’s what I do in this article.
A Preview of My Evaluation
Dow 36,000 makes a few sound (indeed, astute) points. Yet its foundation is rotten: its claim that stocks are no more risky than bonds is mostly false. Indeed, in three of the four respects that I consider, equities are riskier than bonds.
Not surprisingly, given its weak base, G&H’s predictions – whether about individual stocks or the DJIA – have been spectacularly wrong. Most fundamentally, and ironically, although they insisted that they were calculating rationally and promoting sensible investment, they actually thought and acted like many people do during booms, bubbles, bull markets, manias, etc.: they abandoned common sense and embraced wishful “New Era” thinking.
G&H spurned “outdated” (p. 4) measures and standards of valuation and attempted to rationalise the mania of the late-1990s. Above all, they extrapolated into the indefinite future the extraordinary returns of the recent past. Dow 36,000 wasn’t ahead of its time; it was an irrationally exuberant product of its time.
The Case for Dow 36,000
On pp. 17-18, G&H summarise their argument. They present it as ten distinct propositions; I’ve condensed it into three sets of contentions, each of which is based upon a key concept.
Risk
- “Over the long term, a diversified portfolio of stocks is no more risky, in real terms, than an investment in bonds issued by the U.S. Treasury.” (Indeed, on p. 4 they assert that equities are less risky than bonds.)
Equity Risk Premium
- “Stocks have historically paid shareholders a large premium – about seven percentage points (sic) more than bonds …
- “This equity (risk) premium (ERP), based on the erroneous assumption that the (stock) market is so risky that anyone who invests in it should get a higher return as compensation, gives investors a delightful unearned dividend.
- “Evidence abounds that investors are catching on, realizing that the equity (risk) premium is unnecessary (that is, should before long fall to zero) …”
Valuation
- “If there is no ERP, then, over time, stocks and bonds should put about the same amount of money into the pockets of the people who buy them.
- “Therefore, the correct valuation for stocks – the perfectly reasonable price (PRP) – is the one that equalizes the total flow of cash from stocks and bonds in the long run.
- “Several complementary approaches show that the price to earnings (“P/E”) ratio that would equalize (stocks’ and bonds’) cash flows is about 100.
- “The Dow Jones Industrial Average was at 9,000 when we began writing this book, and its P/E was about 25. So, in order for stocks to be correctly priced, the Dow should rise by a factor of four – to 36,000.”
Prospective Returns
- “The Dow should rise to 36,000 immediately, but to be realistic, we believe the rise will take some time, perhaps three to five years …
- “In other words, stocks are an exceptional investment. They are (no more risky than Treasury) bonds over long periods of time, and their (prospective) returns – at least for now – are exceptional.”
My Assessment
Risk
“In the long run,” G&H emphasise (on p. 24 and elsewhere throughout the book), “stocks are not very risky.” The authors acknowledge that “people are naturally cautious, especially with their own money, and the return on stocks is volatile from day to day.” However, they omit to mention that equities’ returns can also fluctuate greatly from week to week, month to month, year to year and even over multiple years.
G&H then ask (p. 25): “what is risk, anyway? … In simple terms, think of financial risk as the volatility of returns – the severity of the ups and downs of a stock’s (or a bond’s, etc.) performance … The most common way to quantify risk (p. 26) is through an analysis of ‘standard deviation,’ which tells how much a stock’s return has varied from its own average” (see also pp. 95-96).
“All risk indicators,” they rightly add, “have two drawbacks. First, they can only describe what has happened in the past, not what will happen in the future … Second, … risk indicators don’t account for cataclysmic events … But despite its inadequacies, history is the best source of information we have when analyzing risk, and the history of stocks is clear and consistent: in the short run, stocks are very risky; in the long run, they are no more risky than Treasury bonds.”
That last bit is demonstrably false: by the very measure which quantifies G&H’s definition of risk, and over medium-term (five-year), long-term (ten-year) and very long-term (20-year) periods, stocks’ returns are more volatile – that is, stocks are riskier – than bonds’.
Using monthly data compiled by Robert Shiller (which G&H cite at several points), I calculated the five-year, ten-year and 20-year compound annual growth rates (CAGRs) of the S&P 500 Index’s (hereafter “stocks”) and the 10-year Treasury bond’s (hereafter “bonds”) total (that is, distribution or dividend as well as capital gain or loss) real (adjusted for the Consumer Price Index) returns.
I then computed the standard deviation of each of these six CAGRs. As a third step, I separated the data into two eras: (a) all months before December 1996 (when Alan Greenspan delivered his “irrational exuberance” speech) and (b) all months since January 1997; finally, I computed the standard deviations of stocks’ and bonds’ real total returns during each era. The results appear in Table 1.
Table 1: Standard Deviations, CAGRs of the S&P 500 and 10-Year Treasury Bond, Medium, Long and Very Long Terms
In one crucial respect, G&H are correct (p. 27): “the longer you hold on to stocks, the less volatile are your returns …” That’s true for the entire (153-year) period under consideration, as well as the longer (125-year) and shorter (28-year) sub-periods: reading down each column, as time increases the returns’ standard deviation (risk) falls. Equally, however, and just as importantly, this pattern also applies to bonds.
Yet G&H’s core contention is clearly false: comparing the two “Entire Period” columns, the two “Until Dec 1996” columns, etc., there are no exceptions: over medium, long and very long terms, and whether the intervals are until December 1996 or since January 1997, the bonds’ standard deviations are lower – that is, the bonds’ returns fluctuate less and are thus, by this definition, less risky – than are the stocks’.
Moreover, since 1996 the standard deviations of stocks’ returns haven’t decreased (that is, stocks haven’t become less risky), but bonds’ clearly have. Over the past 30-odd years, in other words, bonds have become significantly less risky relative to stocks.
Figure 1: Standard Deviations of 20-Year CAGRs, S&P 500 Index and 10-Year Treasury Bond, January 1911-March 2024
Figure 1 elaborates this result. It plots the standard deviations of stocks’ and bonds’ 20-year total, CPI-adjusted total returns (expressed as CAGRs). Since 1911, stocks’ long-term return has averaged 2.0% and bonds’ 1.5%. Their returns fluctuate one-third more than bonds’ returns (2.0% ÷ 1.5% = 1.33); alternatively, bonds’ returns vary just three-quarters as much as stocks’.
Each series has tended to regress towards its mean. As a result, although bonds’ long-term returns usually fluctuate less than stocks’, over two intervals the opposite has been true. The first lasted from 1911 to 1921, and the second from 1990 to 2009. For a decade before and a decade after G&H wrote Dow 36,000, bonds were riskier – that is, their returns fluctuated more – than stocks.
But since 2009, the usual pattern, whereby stocks’ returns fluctuate more than bonds’, has reappeared. This is the product of two developments: first, the standard deviation of stocks’ 20-year CAGRs has zoomed; secondly, the standard deviation of bonds’ 20-year CAGRs has plunged.
As a result, since the GFC stocks haven’t merely become much more risky relative to bonds: they’re presently riskier than at any time in the past.
It’s not an explicit part of G&H’s definition of risk, but it’s nonetheless sensible (indeed, it’s Warren Buffett’s definition) and they resort to it repeatedly: the greater is the probability that an investment generates a loss, the riskier it becomes.
Figure 2 plots stocks’ and bonds’ long-term, CPI-adjusted total returns. It shows not only that stocks’ CAGR (7.2%) is much greater than bonds’ (2.1%); in barely 1% of the 240-month intervals since 1891 have stocks generated a return less than 0% – and when they have, the return has been barely negative. Bonds, in sharp contrast, have generated negative long-term returns almost one-quarter of the time. Indeed, between 1951 and 1985, their long-term returns were almost continuously and significantly negative. Today, they’re on the verge of dipping below 0%.
Figure 2: CPI-Adjusted, 20-Year Total CAGRs, S&P 500 Index and 10-Year Treasury Bond, January 1891-March 2024
In this key sense, stocks as a whole are much less risky than bonds. As a result, who in his right mind would ever buy and hold bonds?
For each month since 1871 I computed stocks’ and bonds’ CPI-adjusted one-month total return. I then annualised these monthly returns and divided them into two portions: (1) those months which, according to the National Bureau of Economic Research (which is the semi-official arbiter of the business cycle in the U.S.), occurred within a recession, and (2) the months between recessions. I then computed returns in each subset of observations. Figure 3 summarises the results.
Figure 3: Total CPI-Adjusted Returns, Annualised, S&P 500 Index and 10-Year Treasury Bond, During and Outside Recessions, February 1871-March 2024
During months outside recessions, stocks (13.6% annualised return) greatly outperform bonds (0.4%). During months within recessions, on the other hand, the polar opposite occurs: stocks generate annualised losses of -8.8%, whereas bonds gain 7.8%.
Why buy and hold bonds and related instruments such as bills and deposits? Among other reasons, they greatly mitigate equities’ losses during recessions (see also Recessions usually crush shares – but investors can always reduce their ravages, 31 October 2022, How we’ve prepared for the next bust, 28 November 2022 and How we prepare for – and profit from – recessions, 18 August 2023).
Figure 2 buttresses what G&H dub the “Dow 36,000 Theory,” and a graphic like it underpins Jeremy Siegel’s Stocks for the Long Run: The Definitive Guide to Financial Market Returns & Long-Term Investment Strategies (6th ed., McGraw Hill, 2022).
These results aren’t false, but without careful elaboration they’re misleading. Over the long term, the returns of stocks as a whole exceed those of bonds; yet most individual stocks underperform bonds. That’s because stocks’ overall long-term outperformance – and thus, say G&H, lower risk – is attributable to just a handful of companies.
In “Do Stocks Outperform Treasury Bills?” Hendrik Bessembinder demonstrates that most don’t: “58% of common stocks have (long-term) holding period returns less than those on one-month Treasuries … the entire gain in the U.S. stock market since 1926 is attributable to the best-performing 4% of listed stocks.” And in “Shareholder Wealth Enhancement, 1926 to 2022” he added: “the degree to which wealth enhancement is concentrated in relatively few stocks has increased over time: for example, the number of high-performing firms that explain half of the net wealth creation since 1926 decreased from 90 as of 2016 to 83 as of 2019 and to 72 as of 2022.”
Got that? The total return of the S&P 500 Index since 1926 results from the gains of just 20 companies. The vast majority at a given point in time (480) don’t merely underperform the Index: they underperform Treasury bills! Moreover, this sharp bifurcation has increased as time has passed. Why buy and hold Treasuries? Over the long term they outperform most stocks.
Figure 2 shows that in rolling 240-month intervals since 1891, a specific group of 500 stocks (i.e., those comprising the Index during each interval) virtually always outperform 10-year Treasury bonds (Siegel’s analysis extends this point to include long- and short-term bonds, gold and commodities). Unfortunately, this interpretation has been ubiquitously – and invalidly – extended to all portfolios, including those containing far fewer than 500 stocks.
This inference has contributed mightily to the universal but false belief that funds managers’ portfolios of, say, 150 stocks, as well as individual investors’ portfolio of 10-20, whatever their strategy and as long as they wait long enough, will outperform bonds. It has also obscured a fundamental truth: as I demonstrated in How the 60/40 portfolio outperforms (17 October 2022), a portfolio that prudently combines stocks and bonds often outperforms both.
On p. 91, G&H ask: “How risky is the stock market?” In the short run, referring to its mostly-random fluctuations, they correctly state that it’s very risky. In the long run, they assert, “it is no more risky than the market for Treasury bonds. That undeniable, historical fact forms the foundation of the Dow 36,000 Theory.”
My assessment is very different: the riskiness of stocks relative to bonds depends crucially upon your choice of stocks and conception of risk. The key strands include volatility of returns, probability of long-term loss, vulnerability to short-term factors such as recession – and choice of stocks.
By three of these four criteria, over more than 150 years in the U.S., stocks have been riskier than stocks. G&H’s inadequate characterisation and negligible assessment of risk provides a weak basis for the Dow 36,000 Theory.
Equity Risk Premium
“Investors in recent years,” G&H allege, “have begun to understand this secret about the riskiness of stocks” (namely that in the long run they’re supposedly no more risky than bonds). From this basic error stem three others (p. 91; see also p. 39):
- “As a result, they have bid up (stocks’) prices – a process that will continue until stocks reach their PRP (perfectly reasonable price).
- “Another way to describe what’s happening is that investors, acting rationally at last, are requiring a lower ‘risk premium’ – a smaller bonus – in return for taking the chances involved in investing in stocks.
- “Not only are investors becoming more enlightened about the riskiness of stocks, (their) real-life riskiness is actually going down …”
To ascertain the return you can expect from a stock or market index, G&H say (p. 96), you add its dividend yield in a given month to the percentage rate of dividend growth you anticipate during the next 12 months. “That number,” they state, “has typically been higher than the yield on a (10-year) Treasury bond …”
In January 1999, when G&H were writing Dow 36,000, the S&P 500 Index’s dividend yield was 1.3%. They assumed that during the next 12 months dividends would grow 6.0%. Hence the Index’s “expected cash return” for the year to come was 1.3% + 6.0% = 7.3%. Meanwhile, in January 1999, 10-year Treasury bonds yielded 4.72%.
The difference between G&H’s expected cash return and the bond’s yield – that is, the ERP – was 7.3% – 4.72% = 2.58%.
That number was “the expected extra cash flow that investors (demanded) to compensate them for the extra risk of owning stocks instead of Treasury bonds.”
That’s sensible: stocks’ long-term returns usually fluctuate more than bonds’; moreover, and unlike bonds, stocks usually fall – often heavily – during recessions; finally, most individual stocks underperform the Index As compensation for these risks, investors demand an equity risk premium.
According to G&H, on the other hand, investors perversely “perceive additional risk (from stocks) even if it doesn’t exist, so they demand higher returns. But what happens if these investors wake up to reality? What happens if their … perceptions shift as they learn the truth about stocks? To put it simply: stocks’ prices will move toward the perfectly reasonable price (PRP) …”
“The (equity) risk premium,” they elaborate, “is the number of percentage points you have to add to the Treasury bond interest rate in order to make it equal to the dividend yield for stocks plus the dividend growth rate” (p. 99).
As G&H note, there’s “no official risk premium figure.” Given a key assumption, it’s easy to construct one. It’s hard, however, to ascertain if that assumption is reasonable: “it’s easy to find the bond rate and the dividend yield, but we have to guess what people expected the growth rate of dividends would be each year.” For simplicity, G&H assume that the expected growth rate has been constant (6% per year) since 1871.
Since the Second World War, G&H’s assumption has been reasonable, but until then it significantly overestimated dividends’ actual rate of growth. For each 12-month period since January 1871 I calculated the actual rate of the S&P 500 Index’s dividends’ growth. I then calculated these percentages’ average over rolling 120-month intervals. For January 1871-January 1872, for example, dividends grew 1.3%. And the 12-month periods to January 1882 (i.e., February 1872-February 1873, …, January 1881-January 1882) averaged 2.7%, and so on for each rolling 120-month period to March 2024. Figure 4 plots the results.
Figure 4: Two Assumptions about Dividends’ Rate of Growth, S&P 500 Index, January 1871-March 2024
Given the two assumptions in Figure 1, it’s easy to compute each month’s ERP. In January 1871, for example, the sum of the dividend yield (5.86%) and G&H’s estimate of dividend growth (6.0%) was 11.86%; subtracting the 10-year Treasury bond’s yield during that month (5.32%) gives their estimate of the ERP during that month: 11.86% – 5.32% = 6.54%, and so on for each month to March 2024. Figure 5 plots the results.
Figure 5: Two Estimates of the S&P 500 Index’s Equity Risk Premium, January 1871-March 2024