Estimating Future Stock Returns, June 2021 Update

Image Credit: All images courtesy of Aleph Blog

I’ll keep this brief, as I’ve said it so many times before. This market is on borrowed time. The only comparable period for this market is from the fourth quarter of 1999 to the third quarter of 2000 — the dot-com bubble, which was another period of speculation fueled by loose monetary policy. Here’s a picture of what price returns were like from that era over the following 10 years (but with a 2% dividend yield).

And we are touching the sky at present. Though at the end of the quarter, the S&P 500 was priced to return -0.91%/year over the next 10 years, at present that value is -1.41%/year. None of these figures are adjusted for inflation. At the recent high of 4,536.95 on Sept. 2, the expected return was -1.73%/year for the next 10 years. This graph shows how we are touching the sky:

The actual line is touching the maximum line. The future line gives an idea of how valuations could normalize over 10 years. The Dow 36,000 crowd will get their day in the sun, maybe even this year, or it might not happen until 2035. But even if it hits the level, it’s unlikely that it will stay above that level for most of the rest of the next 10 years.

I’ll close with a quote from something I wrote recently:

"Though interest rates are low, they are not negative. 10-year investment grade bonds are competitive against domestic stocks at this point. Even if you are losing against inflation, you are losing less against inflation than the market as a whole. Same for cash. I don’t think that there is no alternative. Here are the alternatives:

  • Investment grade bonds (market duration)
  • Cash
  • Value stocks
  • Cyclical stocks
  • Foreign stocks
  • Emerging market stocks and bonds

"So consider the alternatives, and consider hedging. I can’t nuance this anymore, as we are in uncharted waters. We are touching the sky."

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Disclaimer: David Merkel is an investment professional, and like every investment professional, he makes mistakes. David encourages you to do your own independent "due diligence" on ...

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