Lost decade for stocks
by ilene - December 27th, 2009 5:06 pm
Lost decade for stocks
Courtesy of James D. Hamilton at Econbrowser
Why were the aughts so nasty for stocks?
The U.S. ended the decade more or less where it began in terms of total employment.
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The owners of capital fared no better, with the nominal S&P500 stock price index down 20% for the decade. The dividends stockholders collected made up for some of that, but inflation took away even more.
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One of the reasons stocks did so badly was that real earnings ended the decade 80% lower than they began. Even when you smooth out cyclical variations by taking a decade-long average as in the dashed blue line below, the downturn in earnings at the end of the decade is still pretty significant.
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But a bigger reason why stocks did so badly was the changed valuation of those earnings. Yale Professor Robert Shiller likes to summarize this by using decade-long averages of real earnings to calculate a price-earnings ratio. In January 2000, this cyclically adjusted P/E ratio was profoundly out of line with the average values we’d seen over the previous century. If you trust the tendency of this series to revert to its long-run average, it means that whenever the blue line is above the red, you should expect stock prices to grow at a slower rate than earnings. If you bought when the blue was as far above the red as it was in January 2000, then I hope there was something else you found to enjoy about the naughty aughts.