By Tyler Durden
Authored by Lance Roberts via RealInvestmentAdvice.com,
Just recently my colleague Jesse Felder penned an excellent piece discussing the use of the “four most dangerous words” in investing: “this time is different.” The whole article is a must read, but he hit on a particular point that has become a mantra for speculative investors as of late:
“In other words, valuations don’t matter as much as they did in the past because ‘this time is different’ in that interest rates are so low.”
The basic premise of the interest rate/valuation argument has its roots in the “Fed Model” as promoted by Alan Greenspan during his tenure as Federal Reserve Chairman.
The Fed Model basically states that when the earnings yield on stocks (earnings divided by price) is higher than the Treasury yield; you should be invested in stocks and vice-versa. In other words, disregard valuations and buy yield.
Let me warn you now this will not end well.
There is an important disconnect that needs to be understood.
You receive the income from owning a Treasury bond, however, there is NO tangible return from the earnings yield.
For example, if I own a Treasury bond with a 5% coupon and a stock …read more