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Strategies & Market Trends : Booms, Busts, and Recoveries -- Ignore unavailable to you. Want to Upgrade?

To: TobagoJack who wrote (12233)	12/29/2001 4:39:55 PM
From: Stock Farmer	Read Replies (2) \| Respond to of 74559

Hi Jay - yes, I think you are not far enough from correct to give me any sense of comfort. Indeed, it is downright scary. And with a subconscious set of perilomatic sunglasses firmly in place, it is much much preferable to pretend it will not be so. Can I pour you another cup of this delicious tea? Please? John

To: TobagoJack who wrote (12233)	1/28/2002 10:29:07 AM
From: Wyätt Gwyön	Read Replies (2) \| Respond to of 74559

hi Jay, i agree with your general conclusion: Why should anyone bother playing the mug’s game at turkey’s odds? though i would modify the assumptions a little.... The indicated nominal risk-free rate is zerodotnaught percent (5% real) in the second largest economy in the world isn't deflation in Japan about 2%? with the 10-yr JGB a little over 1%, that is a long-term return of 3% real. when you consider that a futon in Kichijoji has a real yield of 2%, the extra 1% available from parking funds with the BOJ for 10 years seems like an incredible risk to me. these low yields are one of the reasons for the cheap rents in Japan compared to real estate prices there. the problem in Japan is, people have nowhere to hide. it is not like you can get a decent return on the long end of the curve, even if you are willing to accept inflation risk. 1% for 10 years strikes me as mighty risky in the face of a concerted yen devaluation. in the US, by contrast, one can still get a sizeable real return on the longer end, and gain (some, if not perfect) inflation protection via TIPS. so there is more of a place for people to hide (from ridiculous equity prices), although the stock religion that has gone on the past 20 years seems to have kept many from noticing it. (hence Greenspn is able to "flush out" MMF holders into equities by burning the short end of the curve.) The indicated nominal risk-free rate is 5% in the largest economy (2% real), which is also the largest debtor* i guess you are referring to the 10-yr Treasury, but i don't think that would be considered a risk-free rate. the problem with a long maturity is interest rate risk, so people use the 90-day T-bill as the risk-free rate since there is very little interest rate risk. looking at the 90-day T (or MMFs), the risk-free rate appears to be about zero in real terms. however, i would contend that TIPS provide an alternate risk-free rate, which is around 3.4% on the 10-yr. so that is the hurdle equities have to climb in my book. imho, the real expected return on the SPX is, in an optimistic scenario, about 3.5% (1.5% div yield + 2% historical growth). (this of course assumes no contraction in PE.) 3.5% (expected equity return) - 3.4% (risk-free return as per TIPS yield) = 0.1% equity risk premium. if an equity risk premium of 5% (i.e., total expected real return of 8.5%, or nominal return of close to the historical average 11%) is deemed normal, then the risk premium is 4.99% short on that mark. that is a little different from the way you calculated it, but we arrive at the same conclusion of a "mug’s game at turkey’s odds". and the reason it is so is that there seems to be little expected benefit given that: For that 0.1+%* possible real gain, what is the downside by traditional valuation measures? Negative 50% real and nominal?* all JMHO