Photo: Bloomberg TV
Wharton finance professor Jeremy Siegel was just on CNBC defending himself against Bill Gross, who took a few latent shots at Siegel in his latest monthly letter released this morning.Gross criticised what is known as the “Siegel constant” – the idea that stocks consistently produce a long-run average return of 6.6 per cent after inflation, saying that “stockholders must be skimming off the top” since long-run GDP averages only around half of that.
Siegel explained to CNBC why Gross is wrong:
You definitely can have a return greater than GDP growth. There is nothing uneconomic about it.
The thing is that capital gives out dividends, it gives out interest, it gives out return. When you add that all together, it’s going to be greater than GDP growth. Even in a non-growing economy, you have situations where return is greater than GDP growth.
Siegel said Gross is basically being misleading with his comparison, because total return of the stock market is not appropriate to compare to GDP:
What he is putting down on this graph is called total return. It’s the amount of dividends plus the capital gains. That doesn’t mean that the stock market values keep going up relative to GDP. If you looked at that over a hundred years, you would not see a stock market rising relative to GDP.
The total return – that’s the dividends you get, the interest you get – people live off of that, they spend that. So, that’s not skimming off of the top. Capital has to give you a rate of return above growth.
Even in a no-growth economy, you’re going to get some return on capital. So, it’s not an anomaly, it’s not inconsistent to have that phenomenon. Again, he had total returns here. He did not put stock market value, he just talked about total returns. And remember, most of those returns are spent by you and me and investors over time.
Economists will tell you you will almost always get total return above GDP growth. So, it’s not an unusual circumstance whatsoever.