Most people don’t get the idea I’m about to share with you… or they’re not willing to accept it.
However, it’s 100% true…
The idea is that value is RELATIVE when it comes to investments. And this concept is hugely important today.
Once you understand this, you’ll see how the stock market could soar 50% or more from here.
[ad#Google Adsense 336×280-IA]Nobody is saying that now. But I think you’ll be hearing more talk like this soon…
Let me explain… starting with a question…
Does 10% interest on an FDIC-insured bank CD sound good to you?
Today, you would say, “Heck yeah!”
It sounds good because relative to all the other investments, a safe 10% in the bank is fantastic.
But what if it were 1981?
Back then, it would have been a bad deal…
In 1981, you could find plenty of other investments paying more than 10% interest. Bonds, bank CDs, and bank savings accounts were all paying 12%-plus interest.
Why would you accept 10% interest when you could get 12%-plus?
My point is, value is relative to what else is out there… And today, it’s no contest… The value is in the stock market.
Look… You earn zero-percent interest in the bank. You earn less than 3% interest if you’re willing to lend money to the government for 10 years (which I am not willing to do!). Yet stocks today have a forward “earnings yield” of 7%-plus.
“Earnings yield” is simply the price-to-earnings (P/E) ratio reversed… It’s the E/P ratio. The current forward P/E ratio is 13.7. The inverse of that is 7%.
We can use earnings yield to compare stocks apples-to-apples with other assets.
So what sounds best to you?
- 0% in the bank
- 3% in 10-year government bonds
- 7%-plus in stocks
Based on those three choices, the answer is obvious – you want your money in stocks. The relative value is just too good to pass up.
Comparing yields this way isn’t perfect, of course. But it is a simple way to compare investments when you’re looking for mispriced assets. And something is severely mispriced today…
Stocks shouldn’t be offering a yield that’s so much higher than bonds. Something has to happen to bring their yields closer together.
Either stocks need to soar (which would bring the earnings yield down) or government bonds need to crash (which would bring their yield up).
Let’s say government bonds crash, causing interest rates to go from 2.6% to 5%. For stocks to have an earnings yield of 5%, they’d have to rise 50%.
Looking at it another way, if interest rates stay the same, stocks would have to more than double in value to push their earnings yield closer to what bonds are paying.
Remember, when it comes to investing, value is relative. And right now, when you size up financial assets, stocks win by a mile.