Vanguard chief investment officer and indexing guru Gus Sauter thinks U.S. stocks are in a secular, long-term bull market and that investors can reasonably expect returns in line with historic rates between 8% and 10% over the next five to 10 years.
“Shorter time frames are always subject to tremendous rates of volatility. There are a lot of macroeconomic events going on,” Sauter told CNBC on Thursday. “But if you take a longer-term view I think equities will reward you.”
Sauter, who played a key role in Vanguard’s successful entry to the ETF business, plans to retire at the end of 2012. [Vanguard CIO Gus Sauter to Retire]
On Thursday he said valuations are the best predictor of future returns in stocks, which are “reasonably” priced with a price-to-earnings ratio of about 13 based on forward earnings.
“I think they’re discounting weakness in the economy. The mistake that many investors make is they think there’s a correlation between economic strength and equity returns,” the Vanguard executive told CNBC. “In fact, there is no correlation. It’s really more about how much you’re paying for earnings than anything else. We’re up 17% this year [in stocks].”
In fact, Vanguard is actually projecting earnings will be flat to slightly up next year but that investors can still achieve decent returns.
“If you think about economic or financial theory, it really doesn’t say anything that we’re being compensated for growth — we’re being compensated for the risk we take,” the Vanguard CIO said, although he added there would certainly be some downside in stocks if we go into a recession or fall off the fiscal cliff.
Still, he thinks the S&P 500 falling to 666 in 2009 established a bottom in the market.
Sauter noted investors have suffered through over a decade of “basically zero” returns after P/E ratios surged above 30 at the end of 1999 in the tech bubble.
“There was just going to be no happy ending to that,” he told CNBC. “We’re in better shape now. Valuations are a little less than long-term historical averages.”
Vanguard’s philosophy is that investors are best served by a strategic allocation and sticking with it to avoid buying high and selling low, Sauter explained.
He said it’s “very difficult to step up” psychologically and buy stocks when it’s the right time, and that few investors are able to do it.