Most Popular
1. Banking Crisis is Stocks Bull Market Buying Opportunity - Nadeem_Walayat
2.The Crypto Signal for the Precious Metals Market - P_Radomski_CFA
3. One Possible Outcome to a New World Order - Raymond_Matison
4.Nvidia Blow Off Top - Flying High like the Phoenix too Close to the Sun - Nadeem_Walayat
5. Apple AAPL Stock Trend and Earnings Analysis - Nadeem_Walayat
6.AI, Stocks, and Gold Stocks – Connected After All - P_Radomski_CFA
7.Stock Market CHEAT SHEET - - Nadeem_Walayat
8.US Debt Ceiling Crisis Smoke and Mirrors Circus - Nadeem_Walayat
9.Silver Price May Explode - Avi_Gilburt
10.More US Banks Could Collapse -- A Lot More- EWI
Last 7 days
Stock Market Volatility (VIX) - 25th Mar 24
Stock Market Investor Sentiment - 25th Mar 24
The Federal Reserve Didn't Do Anything But It Had Plenty to Say - 25th Mar 24
Stock Market Breadth - 24th Mar 24
Stock Market Margin Debt Indicator - 24th Mar 24
It’s Easy to Scream Stocks Bubble! - 24th Mar 24
Stocks: What to Make of All This Insider Selling- 24th Mar 24
Money Supply Continues To Fall, Economy Worsens – Investors Don’t Care - 24th Mar 24
Get an Edge in the Crypto Market with Order Flow - 24th Mar 24
US Presidential Election Cycle and Recessions - 18th Mar 24
US Recession Already Happened in 2022! - 18th Mar 24
AI can now remember everything you say - 18th Mar 24
Bitcoin Crypto Mania 2024 - MicroStrategy MSTR Blow off Top! - 14th Mar 24
Bitcoin Gravy Train Trend Forecast 2024 - 11th Mar 24
Gold and the Long-Term Inflation Cycle - 11th Mar 24
Fed’s Next Intertest Rate Move might not align with popular consensus - 11th Mar 24
Two Reasons The Fed Manipulates Interest Rates - 11th Mar 24
US Dollar Trend 2024 - 9th Mar 2024
The Bond Trade and Interest Rates - 9th Mar 2024
Investors Don’t Believe the Gold Rally, Still Prefer General Stocks - 9th Mar 2024
Paper Gold Vs. Real Gold: It's Important to Know the Difference - 9th Mar 2024
Stocks: What This "Record Extreme" Indicator May Be Signaling - 9th Mar 2024
My 3 Favorite Trade Setups - Elliott Wave Course - 9th Mar 2024
Bitcoin Crypto Bubble Mania! - 4th Mar 2024
US Interest Rates - When WIll the Fed Pivot - 1st Mar 2024
S&P Stock Market Real Earnings Yield - 29th Feb 2024
US Unemployment is a Fake Statistic - 29th Feb 2024
U.S. financial market’s “Weimar phase” impact to your fiat and digital assets - 29th Feb 2024
What a Breakdown in Silver Mining Stocks! What an Opportunity! - 29th Feb 2024
Why AI will Soon become SA - Synthetic Intelligence - The Machine Learning Megatrend - 29th Feb 2024
Keep Calm and Carry on Buying Quantum AI Tech Stocks - 19th Feb 24

Market Oracle FREE Newsletter

How to Protect your Wealth by Investing in AI Tech Stocks

Gold and Stocks Yield Relationship and Buy Signals

Interest-Rates / US Bonds Aug 27, 2010 - 02:30 PM GMT

By: Adrian_Ash

Interest-Rates

Best Financial Markets Analysis ArticleTime was, stocks were riskier than bonds and should have the higher yield. But then came inflation...

AT THE START of this week, stocks on the Dow Jones, Tokyo Nikkei and FTSE100 in London offered a bigger dividend-yield than you'd earn in interest from their local government bonds.


"That's pretty rare, and in general has been quite a good indicator of turning points in the markets," notes the Financial Times' investment editor James Mackintosh. But it only looks rare if you ignore most of history. And it's only screamed "Buy!" once on Wall Street, back in winter/spring 2009.

Yes, this "signal" worked, notching up a 100% strike-rate for the last fifty years. But buying stocks today because their yield (only just) beats bonds might prove ill-timed if not a disaster.

For at least 75 years prior to the late-1950s, US stocks consistently paid more than 10-year Treasurys. Rather than being an eight-decade-long buy signal, however, "That was the relationship ordained by Heaven," as the late Peter Bernstein learnt from his senior partners on Wall Street.

"Because stocks were riskier than bonds and should have the higher yield."

On a monthly basis in fact (pace Robert Shiller's data), US equity yields offered investors 1.78 percentage points above Treasury yields between 1871 and 1957, with this "div-yield premium" rising from a long-term average of 1.30% to 3.02% as the Great Depression morphed into WWII and equities got riskier still.

Only twice did equity yields fall below bond yields – first in March-May 1872 and then again in July-Sept. 1929. That anomaly first marked the start of a five-year bear market, and then of the Great Crash itself. Here was a sell signal even Ken Fisher could see.

 

Stock prices*

Change from previous turn

Div-Yield Premium over
T-bonds

May 1872 5.18   -0.10%
June 1877 2.73 -47% 4.57%
June 1881 6.58 +141% 0.74%
Aug 1896 3.81 -42% 1.33%
Sept 1906 10.03 +163% 0.22%
Nov 1907 6.25 -38% 3.15%
Dec 1909 10.30 +65% 0.37%
Aug 1921 6.45 -37% 2.76%
Sept 1929 31.30 +385% -0.39%
June 1932 4.77 -85% 10.31%
Feb 1934 11.32 +137% 0.81%

* Robert Shiller's continuous S&P series from Irrational Exuberance (Wiley, 1996)

No, it wasn't infallible. Like the inverted yield curve forecasting recessions, near-zero Div-Yield Premiums forecast three bear markets that failed to show (Jan. 1890, mid-1899 and spring 1905). And picking the peak in Div-Yield Premiums was a tough buy signal to follow, as the variance in our fourth column shows.

But for 60 years, every significant top and bottom in US stocks was indeed marked by a relative extreme in the Div-Yield premium, at least until the signal broke down – and stocks kept paying ever-more over bonds – in the Great Depression.

So what of 2010's return to pre-Buddy Holly conditions? No idea, to be honest. Not with the UK's long Bank Holiday weekend beckoning. But we might get a quick clue from asking first: Why the late-50s' switch?

The Great Depression, of course, was finally becoming faint memory, as was its record of destroying stockholders while handing deflationary gains to fixed-income bonds. Second, the idea of growth-stock investing – propounded by youngsters like Peter Bernstein himself – was starting to take hold, slowly mutating into the "cult of equity".

But a third (and more critical) change, however, was in the underlying promise of return on versus return of your money. Because where risk-capital was formerly known as "equity", government bonds were fast on their way to becoming "certificates of confiscation" as the long post-war inflation took hold. So you could even put the switch down to the slow death of that natural deflation built into the Gold Standard (or rather its step-nephew, the Gold Exchange system), starting at the very same time as US stockholders kissed goodbye to earning a premium each year above Treasury yields.

From that year – 1958 – until 1971, "There was not one year," says Texas professor Francis Gavin, "when the Dollar and gold problem was not the most pressing issue of American foreign economic policy." Because America was flooding the world with Dollars, which the world in turn kept exchanging for gold, draining Fort Knox until Richard Nixon closed the Fed teller's window and the US finally abandoned its $35-per-ounce currency peg.

Lacking all gold-backing today, it's plain to see that the relationship between stock and bond yields was snapped in half five decades ago. And whatever snapped it is now at stake again.

So, two late-summer speculations for bargain-hungry investors:

#1. A few days or weeks won't do it. Last year's buy signal lasted five months, knocking a further 20% off stocks before they turned higher. The pre-1950s sell signal (then a near-zero or negative Div-Yield Premium) lasted three months or so.

#2. Should this modern "buy" signal fail, it could fail with style, as Tokyo bulls know only too well. Stock yields beat Japanese government bond yields four times between late 1998 and end-2007. The first three worked like a charm, but the fourth was a feint, with the Nikkei losing 52% over the next 15 months, even as JGB yields fell still further below equity's dividend yield.

That's an ugly warning, in short, from the "deflation nation" everyone fears the US is aping. But to date, as the latest US housing, jobs and GDP data show, printing money has only stalled the post-bubble deflation, not reversed it.

Stock buyers beware.

By Adrian Ash
BullionVault.com

P.S: As for the People's Bank buying gold, Beijing's reserve managers are very much the junior player in China's gold market. In the 30 months between Jan. 2008 and June 2010 alone, according to WGC data, private households bought more gold (1057 tonnes) than the central bank reports in its entire hoard (1054 tonnes).

Gold price chart, no delay | Free Report: 5 Myths of the Gold Market
Formerly City correspondent for The Daily Reckoning in London and a regular contributor to MoneyWeek magazine, Adrian Ash is the editor of Gold News and head of research at www.BullionVault.com , giving you direct access to investment gold, vaulted in Zurich , on $3 spreads and 0.8% dealing fees.

(c) BullionVault 2010

Please Note: This article is to inform your thinking, not lead it. Only you can decide the best place for your money, and any decision you make will put your money at risk. Information or data included here may have already been overtaken by events – and must be verified elsewhere – should you choose to act on it.


© 2005-2022 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in