Jeremy Siegel - The Market is 10% to 15% Undervalued
December 3, 2013
by Robert Huebscher
Jeremy Siegel is the Russell E. Palmer Professor of Finance at the Wharton School of the University of Pennsylvania and a senior investment strategy advisor to Wisdom Tree Funds. His book,Stocks for the Long Run, now in its fifth edition, is widely recognized as one of the best books on investing. It is available via the link below. He is a regular columnist for Kiplinger’s, a “Market Master” on CNBC and regularly appears on Bloomberg, NPR, CNN and other national and international networks
I spoke with Siegel on Friday, Nov. 29.
In our interview on Dec. 10 of last year, you said that investors could expect a 25% return this year. On that day the S&P 500 closed at 1,424, and Wednesday it closed at 1,815, which is a 27% gain. Congratulations. What do you consider the fair value of the S&P 500 to be today?
Thank you. I’ve gotten quite a few media contacts and congratulations because I said in January 2012 that the Dow would finish this year between 16,000 and 17,000. I’ve learned that humility, rather than hubris, is the proper response to a good market prediction. You know how uncertain market direction over the short term is. But, that said, I think fair market value for the stocks today is 10% to 15% higher, and that might even be on the conservative side.
As I mentioned last year, when you are in a low-to-moderate interest-rate environment, the average price-earnings ratio for stocks is 18 to 19. If you use reported earnings, which I think are too conservative in terms of their predictive value, we’re at 16.7 times next year’s estimate of forward earnings. That’s slightly above the long-term median but it’s below the average. In a low-to-moderate interest-rate environment, the average is 18- to 19-times earnings.
I think this bull market has definitely more to run.
A lot of factors are weighing on investors’ minds about equity prices, particularly those investors who look out over 10-year or longer time horizons. Let me ask you about some of those concerns. Let’s start with quantitative easing (QE). To what extent do you believe QE has inflated stock prices, and should investors be fearful that the Fed might taper or otherwise become less accommodative?
The biggest myth in the market today is that this bull run is because of quantitative easing. I’m not going to deny that an easy Fed is helpful, but this market is really being driven by fundamentals.
Earnings are up 10% to 13% this year over last year, and this is despite very slow GDP growth both in the United States and the rest of the world. I expect GDP growth next year to be 3.5% or higher. I admit that it might not reach that, and I have been a bit overly optimistic when predicting GDP in the past. But we got 2% growth this year, and most economists agree there was about 1.5% fiscal drag due to the higher taxes and the cutback in spending. If you add that 1.5% back you get 3.5%. I wouldn’t be surprised if GDP pushes 4%.
My feeling is that the market is far too focused on QE, and people are incorrectly calling this “a QE-driven market.” I don’t understand why they do that, because if they looked at P/Es, earnings and interest rates, they would realize that the fundamentals support this bull run.