Long-Run Equity Returns in a European Emerging Market: Madrid 1900-2020

We study the long-run return on equities in the Madrid Stock Exchange from the early emergence of a stock market around 1900 to its “big bang” at the end of the 20th century. Using high-quality data from primary sources, we constructed an original monthly capital-weighted index, the H-IBEX, based on the same methodology of the modern IBEX35. Our historical index provides for the first time an accurate measure of the impact of the Spanish civil war on equity wealth. We also document the time-varying characteristics of market cycles and the magnitude, frequency and determinants of extreme events. Our index suggests that in the long run Spanish equities underperformed relative to global and European benchmarks in real terms, primarily due to persistent macroeconomic instability from the 1940s to the 1980s and a massive destruction of financial wealth in the transition from a closed to an open economy after the fall of the Francoist regime. For almost half century the Spanish equity market was virtually barred to foreign investors and offered limited attractiveness due to high exchange rate risk. After the macroeconomic stabilization and the stock exchange reforms of the late 1980s, Spanish equities offered high expected returns due to their high exposure to global factors, but yielded lower risk-adjusted returns and provided limited benefits of diversification due to their fast-rising correlation with foreign markets.