Bill Gross’ claim that the cult of equities is “dead” has generated a lot of response recently, and now Jeremy Grantham’s GMO has entered the fray, countering many of Gross’ key points.
“Disappointing returns from equity markets over a period of time should not be viewed as a signal of the ‘death of equities,'” Ben Inker writes in a white paper on GMO’s web site. “Such losses are necessary for overpriced equity markets to revert to sustainable levels, and are therefore a necessary condition for the long-term return to equities to be stable.”
While Gross has said that stock market returns can’t continue to run significantly higher than gross domestic product, as they’ve done over the past century, Inker says otherwise. “GDP growth and stock market returns do not have any particularly obvious relationship, either empirically or in theory,” he writes. “Stock market returns can be significantly higher than GDP growth in perpetuity without leading to any economic absurdities.”
Inker says the market has been in a “healing process” since reaching absurd valuations in the early 2000s, and thinks there’s still more healing to be done, which means equity returns will be disappointing for a few more years. But over the longer term, he thinks equities should still produce strong returns. “Whether GDP growth in the U.S. and other developed economies is going to be slower in the future is not, in and of itself, a reason to expect a lower return to equities,” he says. “Likewise, the fact that historic equity returns have been higher than GDP does not mean that the equity market has been some sort of long-term Ponzi scheme.” He says equities are “an ugly asset class — one that is more likely than almost any other to lose investors a significant amount of money at those times when they can least afford it. That is, in a way, their charm. It is why equity is such an appealing form of capital for companies. It is the reason why equities have been priced to deliver good returns historically. And it is the reason why we believe equities are very likely to be priced to deliver strong returns into the indefinite future.”
