The Wizard of Wharton is back, and once again he's traipsing through the bull case on stocks.
In his 1994 book,
Stocks for the Long Run
, Jeremy Siegel showed how market results dating back to 1802 undergirded a compelling case for stock market investment. Now, in his just-released follow-up,
The Future for Investors
, Siegel -- the Russell E. Palmer professor of finance at the Wharton School of the University of Pennsylvania -- looks ahead to the best ways to invest in the 21st century.
Siegel talked with
about some of the themes in his new book, including dividend stocks, the future of tech stocks and the rise of China as an economic power.
How is the future for investors, as it were, shaping up?
The future for investors is very bright. There are many doom-and-gloomers out there talking about the aging of the population and how the impending sales of trillions of dollars of baby boomer assets will depress prices. But my feeling is that worldwide economic growth in the future will cause a continued rise in stock returns.
Could you explain what you call The Growth Trap?
The growth trap is the tendency for investors to simply buy the fastest-growing firm in terms of earnings, or the fastest-growing sector. My research confirms that this is most often a poor strategy.
My research says you have to measure growth relative to expectations and price. Price is a very important variable in buying stocks. Not how fast the earnings are growing, but how fast they are growing relative to the P/E ratio. And some of the fastest-growing sectors like technology and finance have not provided great long-term returns. Even the fastest-growing country -- China -- has not provided the best equity returns over the past decade.
You also refer to something called Corporate El Dorados, or companies that continually beat the markets.
Corporate El Dorados are firms that have a strong brand name, are reasonably priced and have done extremely well for investors for a long period of time. I've found that most of the firms in this category tend to be consumer brand-name companies with strong worldwide presences, or, surprisingly, pharmaceutical companies.
For example, the best-performing company over the past 50 years has been Philip Morris, now known as
. When you go down this list you find firms like
has had some problems recently, but it is still one of the top 20 best-performing companies over the past half-century.
How would you characterize the recent tilt away from souped-up growth companies and toward dividend-paying stocks?
I think dividends are extremely important. They were important in the 19th century and up until 1980. It is only in the last 20 years that dividends fell out of favor with the rise of tech stocks and everyone gunning for growth. Now that we have had a change in the tax law and people are nervous as to the true nature of earnings, people are finally turning back to the real way firms have traditionally shown profits, which is paying dividends to shareholders.
You talk about accounting in the book as well. Has the corporate world cleaned up its accounting procedures? Can we trust corporate earnings again?
We have moved forward. Sarbanes-Oxley has put fear in the hearts of corporate managers even considering fudging their accounting. However, we have some legal cleaning up to do. We are still not expensing options and sometimes we still do not have realistic return forecasts for pension funds. Once we get options and pension accounting under control, I think we have a real solid earnings figure.
By the way, I think the majority of firms do represent true profits when they are reporting earnings.
Last Thursday was the anniversary of the peak of the Nasdaq. What are some of your takeaways from the bubble's collapse?
I think the big takeaway is that large-cap stocks should never carry P/E ratios over 100. We had nine of them in March of 2000. I would get nervous even when they are priced over 60 or 70. Throughout history there have been very few companies worth buying with ratios even in the mid-50s.
Now, I'm not talking about small companies that have not matured yet, but the $30 billion to $50 billion companies. You just cannot sustain those multiples when you get that big.
Well, I would use the projected earnings for next year, which brings it down to the 35-to-40 range, but still it's important to be conservative with your estimates. I would be cautious about Google, as great a company as it is.
also trades at a premium, and I would say it's in a similar situation.
People take for granted that any firm is subject to competition and will eventually see their market power erode. When you look at history you see that unrivaled positions rarely stand in the long run.
You also talk about the baby boomers retiring in the book. That's something that is brought up constantly on Wall Street. Hasn't the market discounted the boomers by now?
When you go that far in the future, it's hard to say. But I submit that the low interest rates we have been seeing in long-term bonds, which
Chairman Greenspan calls a conundrum, are partly due to the aging of the population and the fear of what is going to happen to the stock market. They are putting their money away for decades at low interest rates because they are scared. We saw the same thing happen in Japan.
My thesis is that countries like China and India will lift growth worldwide and the focus will not be on markets in just one country. We will have global markets and I see global growth as being good.
Global growth may be well and good. But isn't a zero-sum game negative for the U.S. in many ways? I mean, if a plant opens up in Shanghai, there is a good possibility that a plant is closing in Ohio, right?
Fortunately, most of economics is not zero-sum. Both sides can gain. That does not mean both sides will always be better off in a transaction. But most of economics and most of trade is based on the fact that we can exchange goods and services with both sides coming out ahead.
Ultimately, what we are buying from China will be very beneficial to Americans and will increase real incomes. Because we save money by purchasing cheaper goods from China and India, we can spend those savings elsewhere, thereby creating demand. And despite our huge trade deficit, we have been a very good job creator over the past 20 years. Much better than Japan and Europe, who have been running trade surpluses.
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