This bull market has legs.
Jeremy Siegel, the Wharton School Professor with an encyclopedic knowledge of stock and bond markets around the world, told investment advisers at the TD Ameritrade conference on Thursday that the rally in stocks has a ways to go yet.
Despite the strong run-up in equity prices since the market bottomed in March of 2009, Mr. Siegel said that the S&P 500 remains 20% below the long-term trend line. Of course, the Wharton professor's long-term trend line is slightly more expansive than most: his statistical analysis dates back to the early 1800s.
According to Mr. Siegel, bull markets tend to rise significantly above trend line before reversing course. Thus, he believes stocks remain a very good buy for investors.
“This market is not overvalued. The next several years are going to be good for stocks,” Mr. Siegel asserted.
U.S. stocks have had a real return (after inflation) of 6.7% between 1802 and 2010, compared to 3.6% for bonds. While there are good decades and bad for all asset classes, Mr. Siegel believes the long-term trends will hold true for equities. “No other asset class enjoys long-term returns like stocks.”
The big reason for the professor's optimism: the surging growth in corporate earnings. The long-term price to earnings ratio of the S&P 500 is 15. And in periods when the interest rate on the 10-year Treasury bond is below 8%, the average P/e ratio of the index rises to 19. With current estimates of S&P 500 earnings for 2011 topping the record $91.47 set in 2007, the index would surpass 1800 if the trend holds true.
But what if the run in stocks over the last year and a half is a short-lived aberration in a multi-decade
bear market? In the 35 year period between 1946 and 1981, stocks actually produced negative real returns. The P/e ratio on the S&P 500 hovered in single digits for much of the 70s and 80s. That is not going to happen this time around, however, Mr. Siegel claimed.
“We won't go to single digit P/e's like we did in the 70s and 80s,” he said. The major reason being that we don't have, and aren't likely to see double digit inflation in the near future. Add in the fact that the huge sell-off in stocks in 2008 left the market 39.4% below the long-term trend line—the fifth largest gap since 1865 according to Mr. Siegel, and there is nothing but upside to come.
“In 2008, people were telling me that this feels like the 1950s. But I told them don't lose the faith. Stocks are going to come back,” he said.
The same can't be said for municipal bonds. Mr. Siegel did note that “they've been whacked more than they should have been, and there are some good yields to lock in." But he warned that tax-exempt debt won't give investors the inflation protection they'd get from stocks. "If your clients are worried about inflation," he advised, "
dividend yielding stocks are the best option.”
Likewise, the Wharton professor took a dim view of gold: “Unless there is a collapse in the global economy or hyperinflation, neither of which is likely, gold-buyers today will be disappointed in five years.”
