What Makes the Stock Market Keep Rising?

Some investors tend to get nervous when the stock market hits levels never seen before. “How can it go any higher?” they ask. “Maybe we should pull our money out now because it may never be this good again.”

However, in the 200-plus-year history of the American stock market there has not yet been any indication that a ceiling has been reached. Even though the market goes through periodic downturns – including some steep and scary declines during bear markets – it has always recovered and soared higher than ever before. How is this possible?

One explanation is that there is no limit to human ingenuity. Knowledge and the ability to apply it in practical situations have been rising since the dawn of humanity. Knowledge, which, in modern times, is most often utilized through new technology, helps companies make better goods or offer improved services, which increases their profits. That creates economic growth.

And this growth may not be limited by natural resources and other physical constraints. Autos, for instance, are lighter and more efficient today, use less metals extracted from mines, and go farther on a gallon of gasoline. Computers have been reduced in size yet offer more  power.

Yes, knowledge and new technology can hurt or eliminate specific businesses or whole industries. There aren’t a lot of buggy makers around these days, but there is a large international auto business. With the advent of new knowledge enough business will grow and thrive so that their stocks will go up in value and push the collective stock market to new highs. Even though some companies decline or cease to exist, others will be born and thrive. That’s why stock market indexes can keep growing: They regularly reshuffle their lineups to bring in new and growing businesses.

So an investor who bets on the economy by holding a large and representative basket of common stocks has a pretty good chance of seeing sustainable – albeit choppy in the short term – growth in his capital.

 

Richard Schroeder
Richard Schroeder