Photo: Bloomberg TV
Last week there was a pretty high-profile debate between Wharton finance professor Jeremy Siegel – who is famous for the “Siegel constant,” or the idea that stocks return an average of 6.6 per cent per year over the long run – and Bill Gross, the manager behind the world’s biggest bond fund at PIMCO.Gross argued that given the current state of affairs in the world economy and global financial markets, “those liability structures such as pension funds and insurance companies that have depended on a 6.5 per cent constant real return from stocks such as we’ve had over the past century are bound to be disappointed.”
Today, Citi’s chief U.S. equity strategist Tobias Levkovich weighs in on the debate in a note to clients, saying its time to reconsider stock market performance over the last decade.
“It is very popular to suggest that the US stock market has been a poor investment over the past decade-plus given that the S&P 500 and the Dow Jones Industrial Average are still trading below their prior highs,” Levkovich writes, “yet, a fair amount of that narrative can miss some important perspectives.”
The main points underpinning Levkovich’s argument:
- The starting point for the measurement matters: Levokvich says that if investors got in the market after the tech bubble burst in 2002, they would have made a 70 per cent return on the S&P 500 or 105 per cent if dividends are factored in.
- Small caps have done incredibly well against the broader market: The Russell 2000 is up around 70 per cent since 2000. Levkovich writes that “it is crucial to note that mega caps have been the big underperformers weighing down the broad indices and that may be in the process of changing given our lead indicator model and likely corporate profit margin compression which generally favour larger companies over smaller ones.”
- Everyone is ignoring dividends: Capital gains was all the rage in the 1980s and 1990s, which makes dividends a very forgettable component of the investment story, according to Levkovich. He points out that “currently, ageing baby boomers are somewhat desperate for income causing dividends to be back in vogue, but it has been 55 years since dividend yields last exceeded 10-year Treasury yields.”
However, Levkovich also warned regarding stocks that “at some point, both severely high and extraordinarily low bond yields can send erroneous signals to markets as they have moved meaningfully away from the typical trend,” and with the global investment climate currently characterised by heightened risk aversion, he expects stocks paying good dividends to continue to outperform.