This seems to be the bull market everyone loves to hate. Maybe it’s because many have consistently underestimated the expected return of stocks since the financial crisis of 2008. Others may resent this bull market because they missed large portions of the move. Some may even feel that it is undeserved or, worse, an illusion propped up by steroids injected into the economy by the Federal Reserve when it initiated quantitative easing in March 2009. Putting aside for a moment how, and when, this bull market may end, investors wishing to deal with the world as it is—and not as it ought to be—have to concede a simple fact: Over the last five years, stocks, as measured by the S&P 500 Index, have outperformed government bonds, corporate credit, commodities, gold, silver and, of course, cash. And with interest rates still near zero, and evidence that the economy could strengthen from here on out, a real risk facing investors may actually be lowering their equity exposure prematurely, particularly if this bull market has another few years left in it. And I think it does.
The first reason is that the fundamentals underpinning this bull market remain strong.
The U.S. stock market discounts an amazing amount of information every day, but ultimately it trades in aggregate1 as a multiple of two important income streams: the earnings generated by corporate America and the cash dividends U.S. companies pay to shareholders. After seeing a lull in earnings growth in the first half of 2013, profits of U.S companies increased about 9% from this time last year.2 And aggregate dividend growth, a key component of the total return of any equity market, has been robust in recent years. Dividends paid by companies in the S&P 500 grew 12% over the past year, and by double digits annualized over the past three years.3
In December, WisdomTree projected that the 1,400 companies that define the U.S. dividend segment of the market would increase regular cash dividends by roughly 11% in the year ahead, based on their most recently declared dividends per share. With aggregate dividends and aggregate earnings both at all-time highs in the U.S., we should not be surprised that major U.S. stock indexes are flirting with new peaks. Interestingly, when the S&P 500 Index sold off early this year, it found support at about 16 times trailing operating earnings, a reasonable valuation in this low interest rate environment.
The second reason is that the economy, despite the slow-motion recovery, is healing.
Gross domestic product (GDP) growth picked up in the second half of 2013, and consensus estimates call for the U.S. economy to grow between 2.5% and 3.0% in 2014. Consumer confidence and new orders, which impact business confidence, are back to where they were in 2008, before the financial crisis. And although January’s frigid weather makes the most recent economic data murky, the trend since 2010 for building permits, housing starts, consumer spending, average weekly hours worked and initial jobless claims all reinforce the view that the economy is on much stronger footing than it was just a few years ago.
After years of losing manufacturing jobs, manufacturing payroll in the United States has increased in 30 of the last 37 months, with 21,000 new manufacturing jobs added in January alone. And although the last two payroll numbers have disappointed, it’s worth noting that employment growth still averaged 194,000 per month in 2013. At that pace of job creation, non-farm payroll—which presently stands at 137.5 million—will likely hit a new all-time high a few months from now. At that point, our $16 trillion economy will likely consist of more employed Americans than ever before, with the highest aggregate levels of personal income and consumer spending in the country’s history.