Thursday, December 23, 2010

stocks still look cheap

corporations are sitting on a cash pile worth $1.9 trillion -- the largest, as a percentage of total assets, since 1959. Slowly, the money is finding its way into stocks. Without getting technical, the reason is simple: Stocks are offering a higher earnings yield -- a higher implied return -- than bonds.

For most of the past 30 years, the equity risk premium has been negative. This is because stocks offer the potential for capital gains and have built-in inflation protection. Bonds don't.

But now that's changed, and bond yields are lower than equity yields. So it makes sense to borrow cheaply (via corporate bonds) and invest. After all, stocks haven't offered this kind of premium since 1980, when Kenny Rogers topped the charts and "Star Wars V: The Empire Strikes Back" first hit theaters. By other measures, such as free cash flow yield versus corporate bond yields, stocks haven't been priced so attractively compared to bonds since the early 1960s.

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