Wednesday, March 23, 2011

Stock Price Appreciation in a Low/No Growth Economy

I stumbed across this article put out by the "Center for Retirement Research" at Boston College:

In a nutshell it offers up some commentary and charts stating that the pattern of business cycles from 1950 until now gives a strong indication of average to above-average growth for the coming decade. I don't have an issue with making a guess about the future direction of stock prices. I suppose the "CRR" is as entitled as anyone to hypothesize on the future direction of equities.

The issue I have with the article is in this section:
Economic Growth and
Synthetic Growth
A closer look at recent experience, however, shows
that the appreciation of stocks is not necessarily anchored
to the expansion of economic activity. Corporations
can increase the assets backing each share of
their stock without installing new plant and equipment
by using their earnings to purchase equity in
other companies, to buy their own stock, or to retire

I disagree with the notion that over a longer term time frame, stock price performance is not correlated to a nation's economic performance. The authors reason that a corporation can avoid a declining stock price by directing earnings to other activites besides reinvestment in the company itself, but this puts the cart before the horse. In general, declining overall economic activity is going to reduce the amount of earnings, regardless of where those earnings are then subsequently redirected.

It's also interesting to me that in an article who's primary focus is discussing the future trend for real returns, never mentions the inflation component part of the calculation. The word 'inflation' only comes up in the article once, and that one time is in describing the definition of 'real return' (sorry, that doesn't count). No attempt is made a projecting the future trned of inflation nor is any commentary given regarding the dependency of the current earnings level on an expanding money supply.

No comments:

Post a Comment