Wise Wealth Management

Dennis Covington | Principal

Insights on the keys to enjoying a "healthy wealth".

Government Intervention and Stock Prices

August 2009

The events of the past year were disconcerting to all of us. We’ve seen home prices plummet, the bankruptcy of major corporations, and the inability of business owners to access credit. The list goes on and on. In response to these historic events the federal government has undertaken an incredible amount of intervention in the economy, including forcing companies to merge, enacting unprecedented amounts of fiscal stimulus and even taking ownership in private companies.

In my conversations with clients, family and friends over the past few months I have heard a recurring theme about this: The belief that all of this government intervention has to bad for future stock returns. The argument goes that the United States’ economy is the world’s strongest because it was built on free-market principles, so therefore more government intervention has to mean our economy – and, hence, stock prices – will suffer.

The leap in the argument that gives me pause is that more government intervention HAS to be bad for stock prices. The reason for my pause is that history has often told a different story. The fact is there are numerous examples in the past when massive government interventions were followed by periods of strong gains in the stock market. And stock return data by country shows little correlation between the degree of government intervention and that country’s stock market performance.

Weston Wellington of Dimensional Fund Advisors provides an excellent history lesson on this in the three-minute video linked below. I hope that after watching this short video you will agree that, while government intervention is certainly a major factor in the economy, it is just one factor among many affecting stock returns.

http://www.dfaus.com/library/videos/governme/ 

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