Bogle "Market Expectations" interview with Morningstar

[Totoro]

I like the simple math that Jack uses to estimate returns. But, I've never gotten my head around why Bogle uses Dividend Yield+Earnings Growth in his estimate. Dividends are a component of earnings that a company may or may not pay out. Shouldn't it be Earnings Yield+Earnings Growth?

Reasoning: dividends is what you get in hand right now, retained earnings are invested to maintain and grow future earnings.

If you take 100% earnings + earnings growth you have a risk of double counting.

 

[Maenad]

Whatever factors that propel the S&P to 20% rise in the last 12 months (and there's never a concensus on what those factors are), do we expect those to continue ad infinitum to drive the S&P 20%/year for decades to come?

Isn't that a straw man argument? With an average of 10%, who in their right mind would be predicting 20%/year for decades? Who has said that in this thread? Heck, who's been stupid enough to say that in Punditland? I haven't heard it.

 

[Lsbcal]

Whatever factors that propel the S&P to 20% rise in the last 12 months (and there's never a concensus on what those factors are), do we expect those to continue ad infinitum to drive the S&P 20%/year for decades to come?

...

I would love to have my portfolio go up 20% per year. But agree, it won't happen. Dam, it's so sweet to see those quarter percent gains every day with all those green quotes.

However, we could have a blow off phase where the market (picture a slope increase on a semilog graph) goes to extremes for several months. My preference is for a consolidation phase where the market is down/up/down/up and basically flat.

Doesn't look like a US or internationals recession is in the cards at present although apparently the China yield curve has inverted.

 

[Lsbcal]

Isn't that a straw man argument? With an average of 10%, who in their right mind would be predicting 20%/year for decades? Who has said that in this thread? Heck, who's been stupid enough to say that in Punditland? I haven't heard it.

In the 1990's there were people who thought 20%/year was not outlandish.

 

[dallas27]

Whatever factors that propel the S&P to 20% rise in the last 12 months (and there's never a concensus on what those factors are), do we expect those to continue ad infinitum to drive the S&P 20%/year for decades to come?

I am reminded of that time in late 1999, when I got past the 7-figure mark and was well into it actually, I sat down to figure out when I would reach the multimillionaire status with that growth rate. Heh heh heh...

Some cataclysmic events happened to derail that projection, but even without them, one could not expect the tech boom to "boom" again and again. The Internet is great, but it could be invented only once. Need another major technical advance, and it does not come every year.

So, it took quite a few more years before I reached that mark, particularly as I lost 44% from the top in 2000/3/24 to 2002/10/09 (the NASDAQ lost 78% in the same period), and had to regain the millionaire status first. Heh heh heh...

PS. I kept a diary where I log the total value of my stash to the dollar everyday. It's so I can look back to see where I was, and try to remember what I was thinking at that point.

Just pointing out that US gdp is less and less consequential to returns going forward. If china and india does 7% for the next 20 years(totally possible), SP will likely do great and just as likely chi/ind will dominate the US in myriad ways as we fall from our economic throne.

 

[teejayevans]

I ignore the numbers but almost every “expert” is predicting lower than average results, something lower, how much lower who knows.

 

[NW-Bound]

From 1950 to 2010, the S&P returned 7% in real terms, meaning after inflation. I can live very well with that. That number however included the outstanding return of the 1980-2000 period, which benefited from the P/E expansion which can happen only once.

Looking ahead, it is going to be lower than that 7% in real terms. A Web site quotes Buffett as saying stocks will likely grow at 5% plus they pay 2% dividend. So, it is around 7%, but that's nominal.

Take Buffett's number, then account for inflation, we are back to roughly what Bogle said again.

PS. I can live very well with 7% return in nominal terms. No problemo! That's more money than what I am spending now.

 

[audreyh1]

At current valuations and low interest rates I think it makes sense to have a conservative forecast (it you're going to bother to have one), and Bogle's approach seems reasonable.

1.5% to 2% real return on a 50/50 portfolio is good enough for portfolio survival, so it's good enough for me!

I'm not going to expect anything better. I sure hope for nothing worse - don't want 0% real or negative!!!

 

[GravitySucks]

I like that he calls it Expectations and not a Forecast.
Not sure how helpful this can be for us as most everyone here has expectations, but plans to (close to) worst case scenario.

Or as Mel Brooke's would say:

https://youtu.be/rt1cA0jqamk

 

[FIREd]

2017 interview with Morningstar, an annual discussion of his expectations: Bogle's 'Reasonable Expectations' for Market Returns

He thinks what is reasonable to expect from now is:

• 4% nominal for equities which he computes from 4% growth, 2% divs, -2% valuations.
• 3% nominal for 50% 10 year Treasury + 50% corporate bond index.
• 1.5% for inflation — not clear if that's today's inflation or expected inflation.

So you can plug these into your AA and model your nominal and real inflation.

50/50 would be 3.5% nominal and 2% real. I would be more inclined to use 2% for inflation, so 1.5% real.

My target AA happens to be 50/50. Using 3.5% nominal return and 2% inflation, my WR would go up to 3.5% in 10 years if I chose to keep my spending power constant. I will be ~54 in 10 years and 3.5% still seems pretty safe for that age.

 

[NW-Bound]

I forgot to point out the following important detail in my earlier post when I compare Buffett's thinking to Bogle's.

Bogle was still worrying about P/E contraction. The S&P P/E is awfully high right now, and above 25. If it reverts back to the normal 20, that knocks off 20%, and Bogle pointed out that it would be 2% a year over the next decade.

Buffett did not mention the high P/E effect above. Some people argue that high P/E is here to stay. On the other hand, Shiller has been bothered by that high P/E for a long time.

So, what will play out? If P/E contracts, I am still OK. If P/E stays high, that will certainly not bother me. But I do not make plan for the case it goes even higher.

PS. Take that back. If P/E goes even higher, I will be selling a lot of stocks. Have seen that before in 2000. Can't fool me again.

 

[Lsbcal]

I looked up the PE from the Wall St Journal here: P/Es & Yields on Major Indexes - Markets Data Center - WSJ.com

Current SP500 PE = 24.4 but note that last year it was 24.2 ! So even with an over 20% gain, the PE has not expanded much. Also the dividend yield is 1.93% and this is pretty good compared to the 10 year Treasury at 2.36%.

Have to admit I am biased. I don't want the party to end. Did sell some equity today to keep the AA at the max equity limit of 60%.

 

[NW-Bound]

Darn!

I will try to find that site where I saw that P/E greater than 25, but I definitely remember looking at the date to make sure it was recent, and it was in Oct 2017. Apparently, the recent earning report boosted the current earning, and drove down that P/E. Hurrah!

I will not sell some stocks tomorrow after all.

PS. 70.7% stock AA as I write this. And that is after many covered call options I sold expired last Friday deeply in the money, causing me to have to let go of mucho of my hot semiconductor stocks (a couple hundred $K worth). It's hard to buy them back now, as they have climbed even higher.

I usually run 70-80% stock AA. When I feel bearish, I go down to 50-60%.

 

[ejman]

At current spend rate my stash would be good for 50 years at a real 0% return, Being that I'm 67 now any plus over that it's party time!

 

[NW-Bound]

OK, before celebrating the increase in earnings, let's look at some recent numbers.

If you bought VFINX, Vanguard's S&P index fund, 4 years ago, a $10K then would be worth around $14k now. That's a 40% gain.

The P/E of the S&P was then 18.45 (Dec 31, 2013). The ratio of P/E between the two dates, 24.4/18.45, is 1.32x.

Now, that tells us that of the 40% stock gain the last 4 years, much of it was due to P/E expansion. In other words, the stock gain is not commensurate with the earning increase. People are just bidding up stocks, in anticipation of something that has not happened yet. When they are disappointed, it will be "Sell, sell, sell".

I will not pop that champagne yet.

 

[YVRRocketSurgery]

A couple of thoughts...
There seems to be a lot of reading material nowadays on how expensive the US market is and to expect muted gains over the next decade. There's also suggestions that where the gains will be are in the emerging markets where valuations are still reasonable even with the run-up this year.

We appear to be on the cusp of the next wave in technology over the next 5-10 years with the Internet of Things, fast mobile networks, cloud computing, and artificial intelligence. The hope would be that companies can take advantage of the information and efficiencies that this leap in technology offers to grow earnings.

 

[target2019]

This site has daily numbers on PE and other measures.
S&P 500 PE Ratio

 

[tinlizzy]

Well, almost all the SP growth the last year is explained by a falling dollar and foreign markets doing well. 50% of SP revenue is foreign, so although the US is flat, they have done well.

Consequently, if the US continues to stagnate and the rest of the world kicks economic butt, The SP will do very well while the GDP stagnates.

I read a blog post by an economist who said basically the same thing. He believes we're entering an era of long, slow expansion which will keep propelling stocks slowly upward.

The Internet is great, but it could be invented only once. Need another major technical advance, and it does not come every year.

It kind of does though. Internet shopping, cloud computing to name a couple. I think the tech industry has barely cracked what's possible with the Internet.

 

[43210]

Obviously "4% annualized (over the next 10 years)" is intended to indicate the center of a widely dispersed probability distribution.

So "4% annualized (over the next 10 years)" really means something like "there is about 2/3 chance that the annualized growth over the next 10 years will be between -2% and +10%".

 

[daylatedollarshort]

The Orville, right?

Highly recommended for some sci-fi not so serious minded people. https://www.fox.com/the-orville/
[/I]

Right, my mistake, we have a city near us called Oroville, but the show is called Orville.

 

[audreyh1]

Well, almost all the SP growth the last year is explained by a falling dollar and foreign markets doing well. 50% of SP revenue is foreign, so although the US is flat, they have done well.

Consequently, if the US continues to stagnate and the rest of the world kicks economic butt, The SP will do very well while the GDP stagnates.

Maybe during the past year, but prior rises the US dollar was strengthening and we saw runs up in SP500, etc. I think the multi-year run can be explained by QE-induced asset inflation, starting with the huge 30% S&P 500 gain in 2013. Now we're going through reverse QE. At some point that's got to create a big drag on asset appreciation.

 

[Montecfo]

Anyone who has been here a while knows that I am no Boglehead, and do not care to frequent their Web site.

However, I do pay attention to what Mr. Bogle has to say. I think he is talking about the longer term investment return, not what is going to happen next month or next year, or even the year after next. I think he and some other pundits are using the macroeconomic aspects to see the average market return for the next decade or two.

Does anyone here expect the S&P to keep rising 20%/yr like it has in the past 12 months? When the GDP grows only 3.5%/yr? You must also believe in the story of Jack and the beanstalk.

Agree. It is mainly a mean reversion argument. Historically, current PE levels imply modest returns over the next 5-10 years.

I think we are well advised to keep expectations low.

However, that does not suggest we will not get another 10 pct up from here.

 

[Montecfo]

From 1950 to 2010, the S&P returned 7% in real terms, meaning after inflation. I can live very well with that. That number however included the outstanding return of the 1980-2000 period, which benefited from the P/E expansion which can happen only once.

Looking ahead, it is going to be lower than that 7% in real terms. A Web site quotes Buffett as saying stocks will likely grow at 5% plus they pay 2% dividend. So, it is around 7%, but that's nominal.

Take Buffett's number, then account for inflation, we are back to roughly what Bogle said again.

PS. I can live very well with 7% return in nominal terms. No problemo! That's more money than what I am spending now.

The big driver of PE expansion was a decline in interest rates from 1980 into the 2000's. You are correct, can't happen from here.

Similarly, if you look at the rising rate environment that proceeded it, stocks returned virtually nothing for 15 plus years if I recall.

Lesson is interest rate direction is perhaps the most important single driver of equity returns over time.

 

[NW-Bound]

If we think the technological advances will drive up the company earnings, then let's look at what the effects have been in the last 20 years.

From Jan 1, 1997 to Jan 1, 2017, the S&P price has gone up 2.97x (5.6%/yr, nominal). However, that is before inflation. If we adjust for inflation, the S&P has gone up 1.95x (3.4%/yr, real). How have the aggregate earnings been doing?

The site multipl.com has lots of good data. I saw that in inflation-adjusted terms, the S&P earnings have gone up a factor of 1.60x. Note that it is less than the price appreciation ratio of 1.95x above (also inflation-adjusted). There's some P/E expansion here again, as indeed the P/E in Jan 1997 was 19.5, and Jan 2017 was 23.6.

But let's get back to the earning increase. The factor of 1.60x over a period of 20 years works out to a measly 2.38%/year in real terms. During that time, the inflation ran an average of 2.15%, and the earnings increase was 4.53% in nominal terms.

Even though the earnings increase was not that great in real terms (2.38%/yr), we had wonderful advances. In 1997, a 42" flat-screen TV was $20K, as I recall seeing one on display at Sam's Club. Now it's $200. In 1997, most people were still accessing the Internet via a dial-up modem, now they are streaming video with broadband access. In 1997, I was working with a company helping to plan for the introduction of the first digital cell phone to the US. Now, everybody has a smartphone with Internet access.

The technology advances certainly improve our quality of life by letting these companies be more productive and provide better products and services. However, the competitive nature of business does not let them make as much money as we think. We cannot have good and affordable products, while having our stocks also going through the roof.

 

[pb4uski]

+1
As I have mentioned before, I think we often expect too much from our heroes. Jack Bogle has done a lot for us all by driving down mutual fund fees, and promoting indexed investing, but why we would expect him to be able to predict future returns is something else again. I have a lot of admiration for Mr. Bogle, but I would not be looking to him to be oracle of the future.

+2