With the meteoric rise in the stock market, many have concluded that stock markets are in a bubble – see one analysis here. Many companies have become unwilling to “invest” due to the low-return environment, rather they engage in financial engineering.
The decline in monetary velocity is clear evidence the “economic transmission” system remains broken. In other words, the longer-term economic government and central bank stimuli are not working – growth and economic activity are on the decline, yet stock markets continue to climb. The chart below shows this problem and its long-term trend.
The chart below via Pavilion Global Markets shows the impact stock buybacks have had on the market over the last decade. The decomposition of returns for the S&P 500 breaks down as follows:
- 21% from multiple expansion,
- 31.4% from earnings,
- 7.1% from dividends, and
- 40.5% from share buybacks.
This seems to imply that real gains in the stock market, especially recently, are driven by financial engineering rather than actual economic growth. In the absence of share buybacks, the stock market would not be pushing record highs of 4600 but instead levels closer to 2700 (40% lower). Add in PE expansion and inflation factors, the story gets even more dubious.
With inflation stories running ramped in recent economic news, many are barreling into real estate and decrying that the stock market is a poor investment. See here from the Fed the S&P/Case-Shiller U.S. National Home Price Index. What is the history of U.S. rental real estate returns relative to the stock market? Here’s (see source) a graph comparing the annualized nominal and inflation-adjusted returns (Compound Annual Growth Rate; CAGR) since 1928 for:
- The S&P 500 – using Aswath Damodaran data
- Rental real estate based on price changes only – using Shiller home price data.
- Rental real estate including rents – using JST Study data.
Gains in real estate or the stock market can be a rollercoaster ride. Timing can be everything. But over the long term, the data is clear, stocks outperform real estate, though a diversified portfolio is paramount when investing in stocks. A couple of takeaways in these charts.
- Stocks on a short-term basis are perhaps in a bubble and could suffer a short-term fall. It will recover but may take time. It will depend on your investment time horizon.
- Real estate today may also be in a bubble and prices may plateau at current levels for a time. However, when investing in real estate, it’s about location, location location.
- Currency debasement engineered by governments along with central banks and business financial engineering is the real story.
What happened to real capitalism? In today’s economy, we can no longer keep our heads in the sand and ignore our investments. Maybe we are all traders now.
See more #chartoftheday posts.