Are Stocks Cheap Compared to Bonds?
The idea is ludicrous but the question came up again today in response to Charts of the Week: Valuation Inflation.
Consider this reader comment thread.
Scoot: Just to be devil's advocate, the PE on the 30 year Treasury is over 80. It's 170 for the 10 year.
Mish: Bonds have yields, not earnings. That aside, your comment is not DA at all. Rather it is one of the silly justifications you hear all the time "stocks are cheap compared to bonds". Hussman accurately blasted the concept recently.
Scoot: Do you have a link to what Hussman wrote? I could only find something from 2015 although I’ve no doubt it’s very similar. It might be a good topic for one of your articles.
Please consider Fundamentally Unsound, John Hussman's July 2020 analysis.
If someone tells you, “well, stock valuations are high, but high valuations are justified by low interest rates,” they’re actually arguing that passive investors face the worst of all possible worlds. They’re saying “well, future stock returns are likely to be dismal, but dismal returns on stocks are justified because you’re going to get dismal returns on bonds too.”
Saying that extreme stock market valuations are “justified” by low interest rates is like saying that poking yourself in the eye is “justified” by smashing your thumb with a hammer.
Worse, by our estimates, the likely 10-year total return of the S&P 500 from current valuations is about -1.4% annually.
Over the completion of the current market cycle, I expect that the entire S&P 500 total return since 2000 will be wiped out. Specifically, I continue to expect the S&P 500 to lose about two-thirds of its value. Even a 50% market retreat would bring valuations only to levels matching the 2002 low, which was the highest valuation level ever observed at the completion of a market cycle.
Here’s the crucial point. A security is just a claim on some set of expected future cash flows. The higher the price you pay, the lower the long-term return you can expect.
Illegal Fed Actions
Hussman also discusses the illegal actions taken by the Fed in response to Covid.
His article merits a read for many reasons.
For further discussion of valuations, please also see Charts of the Week: Valuation Inflation