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The Canadian Financial Advisor

A Bit of History

Benjamin Felix

There has been a lot of talk about automation and how it might affect the global economy. Some people are worried about how these potential changes could affect their portfolio, especially if they passively own the whole market. The thinking is usually that if an industry disappears due to automation or some other factor, and you own that industry, then you might take a loss. While it may seem like this is a disadvantage of passive total market investing, it's actually an advantage. There is no way to tell which industries will fail, or which industries will appear to replace them. Without knowing the future, the most sensible thing to do is participate in global capitalism by owning the whole market.

Just as we expect the world to change going forward, it has changed a lot since 1900, when nobody could imagine that email would replace the telegraph, or that air travel would connect the globe. Technology has transformed the way that we work and live, and globalization has moved many industries out of the developed world and into emerging markets.

As you might expect, those changes are largely reflected in financial markets. In 1900, 80% of the U.S. market's value was concentrated in industries that barely exist today. Below are two charts showing the industry weightings of the U.S. financial market at the end of 1900 and at the end of 2015. Despite all of the changes in how the world works, a dollar invested in the U.S. market in 1900 had grown by an average of 6.4% per year net of inflation by the end of 2015. Of course, there is some survivorship bias here. The U.S. market has been exceptional. In 1900, it was only 15% of the global market capitalization, and at the end of 2015 it was 52.4%. The UK was 25% of the global market in 1900, and 7.1% in 2015. In 1989, Japan was 45% of the global market while the U.S. was 29%. The U.S. has continued to outpace the world. 

Data source: Dimson, Marsh, Staunton (2002, 2015); FTSE Russell 2015. Chart adapted from Financial Market History - Reflections on the Past for Investors Today, CFAI Research Foundation.

Data source: Dimson, Marsh, Staunton (2002, 2015); FTSE Russell 2015. Chart adapted from Financial Market History - Reflections on the Past for Investors Today, CFAI Research Foundation.

Despite the U.S. being a clear case of survivorship bias, global markets have done pretty well in aggregate too. Even when we include two markets, China and Russia, that at one point failed completely (meaning investors lost 100% of the money invested in those countries) a dollar invested in the global market in 1900 would have grown by an average of 5% per year net of inflation by the end of 2015. The world is always changing. Some countries dominate over some periods of time, and falter later. The same goes for industries. It is impossible to know what is going to do well, which is why it makes sense to own the market and stay disciplined.

In 1900 it was not possible to buy an all-world index. In 2017, that technology is available through low-cost ETFs to anyone with a brokerage account. Passively participating in global capitalism has never been easier.