Tuesday, August 17, 2010

Earnings Yields vs. Bond Yields

The above graph plots both bond yields and corporate earning's yields over the past 50 years.  I like to use these types of graphs as a gage of relative value between stocks and bonds.  I don't use them to try to time the market, but to determine which investment is cheaper at the moment.  Right now the 10-yr Treasury yields 2.7% while the earnings yield of stocks is 6.8%.  Under these circumstances, the rational investor would invest in 10-yr government bonds only if they thought corporate earnings were going to plunge over the next year or two.  I personally see the economy continuing to limp on for the near future at low to modest growth levels, yet bond inflows are on the rise while stocks are experiencing outflows.  I believe the bear market of 2008-2009 is still fresh in people's minds, and the weakness of the recovery, the perception of an anti-business political environment and the fear of a double-dip recession is driving some people to seek safety.  Locking in 2.7% for 10 years is not the kind of return I am seeking for my portfolio, but everything is relative.

Another way of looking at the same basic idea is the graph below:
When the graph enters positive territory stock earning yields are more attractive than bond yields on a relative basis.


  1. I've always liked comparing these two yields as well. They can only go so far in opposite directions. Nice analysis.

  2. I am afraid we have seen the end of double digit returns in the stock market for a while. There are billions of dollars on the side lines waiting for better times. Some of it is going to real estate but I think most of it is waiting for the stock market. The incompetent administration doesn't have a clue.

  3. Interesting post. I took advantage of the early '09 lows to purchase quite a few blue chip dividend growth stocks. Even if the stock market goes sideways for the next 10 years, my yield alone should be outperforming the market.

    Investing preference is very much an individual decision, which includes your age and risk tolerance.