Sunday, February 1, 2009

Are stocks really cheap?


Many analysts believe the equities market is cheap, after a 40% correction from 2007 highs, based on valuation metrics like dividend yields. Mark Lundeen gathered this chart on dividend yields that goes back to the pre-Great Depression era:

Historically, stocks are "cheap" when dividend yields rise above 6%, and are considered expensive when yields dip below 3%. In fact, at the Depression lows, stocks yielded 10.38%. Today, the DJIA sits at 8,000, yielding 4.06%.

So the question begs: are stocks cheap? That depends--compared to last year, yes. But historically, stocks are not cheap. At a 6% yield, the DJIA would be priced at 5235. At 10% yield...well, let's not go there--it gets really ugly.

The bad news is that companies are either reducing or eliminating their dividends, so the aforementioned figures would be even lower. Let's hope history doesn't repeat itself.

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