Friday, April 17, 2009

How cheap are U.S. stocks?

Using trailing average five year earnings through 2008 to calculate the S&P 500 earnings coupon, U.S. equities are the cheapest they have been since the Depression when compared to the 10-year Treasury yield. Because this calculation encompasses the financials’ losses reported in 2007 and 2008, one could argue that the attractive 7.7% earnings yield is artificially low.

Academicians Eugene Fama and Kenneth French recently published a study that found that value stocks have declined two years in a row only five times: during the Great Depression in 1929-32; at the beginning of WWII in 1939-41; during the Arab oil embargo of 1973-74; when the Internet bubble popped in 2001-02; and now as the housing bubble deflates. Following the four prior periods, stocks snapped back by an average of 60% in the next 12 months.

-- Longleaf Partners, 2008 Annual Report

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