The roaring US stock market has delivered red-hot gains in recent history, but at the expense of future returns. That, at least, is one interpretation via earnings-yield and dividend-yield models that estimate the ex-ante equity risk premium . Based on a specific run of number crunching, this pair continues to estimate a negative ERP.
For this exercise, I’m running the numbers two ways: the earnings-yield model and the dividend-yield model . Theis the “risk-free” rate. There are other choices, of course, and so results will vary, depending on your preferences. But this is an obvious way to start, if only as a baseline.earnings yield less the 10-year US Treasury yield.
The result isn’t surprising when you consider that the 10-year yield continues to trade well above the S&P’s dividend yield, as shown by the second chart below. The key takeaway is that bonds continue to present a competitive alternative to stocks, which in turn has asset allocation implications. As always, the critical question is: When does the longer-run valuation outlook overtake the shorter-run trend factor? That, of course, isquestion that every investor struggles with. Unfortunately, there are no easy, much less flawless, answers.
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