Tuesday, November 19, 2019

The drivers of equity return by decade - The winner for this decade: earnings growth

I was surprised by the this very useful table from Ben Carlson in his Fortune article "What Powered Such a Great Decade For Stocks? This Formula Explains It All". Looking at the drivers of equity return by data shows that the most recent period has been dominated by earnings growth not P/E expansion. Corporations have been making more money and that causes prices to rise. Earnings have trended up during this whole recovery and companies are currently beating expectations.

It could be a host of reasons for this earnings growth: lower costs of leverage, market power, cost containment, and taxes to name a few. But, there has been a limited increase in P/E ratios which suggest that the gains have not been from speculative excesses. There are clearly companies and industries that have high P/E's and P/E ratio are high on a historical basis as measured by Shiller, but it is hard to argue for extremes. If economic growth remains stable even if low, it is hard to argue for a market decline. 

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