Since the stock market crash of late 2008, investors have heard a lot about the “New Normal” — the notion that we’re now in a new era of lower-than-average economic growth, and lower-than-average stock market gains.
But a new study from the Center for Retirement Research at Boston College, a group that is affiliated with M.I.T. and The Brookings Institution, argues otherwise. “The return on stocks will depend on corporations’ proﬁtability,” write the study’s authors, Richard W. Kopcke and Zhenya Karamcheva. “Companies’ earnings have recovered strongly since the recent recession, and the valuation of those earnings reﬂected in current stock prices is near its historical average. If companies maintain their proﬁtability, stocks are likely to pay returns that match their historical averages over the coming decade, even if the recovery of the economy is weaker than average.” (A tip of the cap to CBS MoneyWatch’s Carla Fried for highlighting the study.)
Among Kopcke and Karamcheva’s main points:
- Over the last couple decades, dividend yields of U.S. stocks have tumbled, and capital gains have made up a bigger portion of total stock returns;
- But capital gains aren’t necessarily linked to economic growth — share repurchases have become a key driver of capital gains. Kopcke and Karamcheva say that even if economic growth is slow, companies can use share repurchases to enhance shareholder value, as they’ve done for the past quarter-century;
- Earnings, not economic growth, are key to stock returns, and right now the earnings yield on stocks is about 6.5% — right around the historical average. If companies maintain their earnings and P/E multiples don’t fall substantially, Kopcke and Karamcheva say investors should realize real, after-inflation returns of about 6.5% over the next decade;
- And the “prospect for earnings is promising”, as earnings per share of stocks have rebounded and are near pre-recession highs;
- Profit margins have also rebounded despite a weak economic recovery, and are around 8.5%, which bodes well. “If margins remain near 8 percent, thereby splitting the difference between the high margins of the 1950s and 1960s and the low margins of the 1970s and 1980s, stock prices would likely remain at or above 15 times earnings as they have done in past economic expansions,” the authors write.
All of this could mean talk of a “New Normal” is overhyped. “Over the coming decade, if earnings continue to recover as they have during past business cycles, stocks are likely to pay returns that compare favorably to their historical averages,” Kopcke and Karamcheva conclude.