Friday , 19 April 2024

Napier: U.S. Stocks to Decline To 6 Times Earnings by 2015 – 2020!

I fully expect to be here in five or six years telling you to buy U.S. stocks at 6 times earnings – at a time when the geopolitical decline of America is on the front page of every newspaper – at a time when you have capital controls – at a time when the government is manipulating the debt market. Words: 713

Lorimer Wilson, editor of, provides below further reformatted and edited excerpts from Russell Napier’s speech* to the CFA Society according to Dan Amoss ( who was in attendence. Napier, an analyst for the brokerage firm CLSA and author of a book entitled “Anatomy of a Bear,” went on to say:

Shiller P/E Ratio
Secular, or long-term, bull markets are best defined as a period of rising valuations while bear markets are the opposite. Near bull market peaks, investors become so optimistic that they pay silly earnings multiples for stocks. A simple way to view a P/E multiple is the “payback period” for the return of the capital you part with in order to buy a stock. The higher the starting PE ratio, the longer the payback period.

The best P/E ratio to use over long stretches of history is based on the work of Yale Professor Robert Shiller, and his now-famous “Shiller P/E ratio”, because it smoothes out the extreme peaks and valleys in earnings, giving a better framework for thinking about future S&P earnings power. The Shiller P/E ratio is calculated as follows: divide the S&P 500 by the average inflation-adjusted earnings from the previous 10 years.

• The mean and median Shiller P/E average since 1880 are both about 16 times earning;
• Today, the stock-market trades at about 22 times earnings.
• At the last four major bear market bottoms, in 1921, 1932, 1949, and 1982, the Shiller P/E fell below 10. This is a far cry from bouncing sharply off of 15 – which is what happened at the March 2009 bottom.

How Demographics Affect the Shiller P/E Ratio
Professor Shiller and a few of his graduate students conducted a study to discover a data series that fits closely with the Shiller P/E ratio. The study revealed that demographics heavily determine stock market valuations. It compared the number of 40-year-olds with the number of 20-year-olds through time. If the number of 40-year-olds grows faster than the number of 20-year- olds, valuations rise. If the number of 20-year-old grows faster than the number of 40-year-olds, valuations fall.

In statistics jargon, the “r-squared” of this variable, in explaining valuations, was 0.79. That’s very high, meaning the demographic trends are important in determining long-term stock market returns. Over the next several years, the number of 40-year-olds will decline, due to the lower birth rates between the Baby Boomers and the Boomers’ kids. So the Shiller P/E ratio is very likely to fall.

Bear Market to Worsen
Valuation, however, is the main reason why I expect the bear market to last several more years into the future – probably somewhere in the 2015- 2020 timeframe. I think we’ll get there through some combination of falling stock prices and modest earnings growth.

Rapid earnings growth, along with rising valuations, drove the great 1982-2000 bull market. The sprint up to the 2000 peak was, in hindsight, the biggest stock market bubble in history. History shows that bubbles are nearly always corrected over very long periods. The next decade will surely be especially turbulent, because that’s when markets and politics will sort out what the inevitable train wreck in the U.S. entitlement programs will look like.

Standard of Living Will Decrease
How much will entitlement promises be financed by currency debasement? How much are Baby Boomers willing to sacrifice in terms of medical rationing or higher retirement ages for Social Security? These are the big questions of our time. The one thing that’s certain is that it won’t be painless. Most entitlement recipients expect a standard of living that the welfare state can simply not afford.


Editor’s Note:
– The above article consists of reformatted edited excerpts from the original for the sake of brevity, clarity and to ensure a fast and easy read. The author’s views and conclusions are unaltered.
Permission to reprint in whole or in part is gladly granted, provided full credit is given.
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