Future for Investors Prof. Jeremy J. Siegel ~ The Wharton School FPA Symposium ~ May 23, 2006.

Future for InvestorsProf. Jeremy J. Siegel ~ The Wharton School

FPA Symposium ~ May 23, 2006

Copyright Jeremy J. SiegelStocks for the Long Run and Future For Investors by Jeremy J. Siegel2

The Verdict of History


STOCKS$666,180

BONDS$1083

BILLS

$293

GOLD$1.62

DOLLAR$0.06

$0.01

$0.1

$1.

$10.

$100.

$1,000.

$10,000.

$100,000.

$1,000,000.

1801 1811 1821 1831 1841 1851 1861 1871 1881 1891 1901 1911 1921 1931 1941 1951 1961 1971 1981 1991 2001

January 1802 – December 31, 2005

Total Real Return Indices


Annual Stock Market Returns

Real Returns

Long-Term

1802-2005 6.8%

Major Sub-Periods

I 1802-1870 7.0%II 1871-1925 6.6%III 1926-2005 6.7%

Post-War Periods

1946-2005 6.8%1946-1965 10.0%1966-1981 -0.4%1981-1999 13.6%1984-2005 8.1%

Updated through December 31, 2005


Annual Bond Market Returns

Real Returns

Long-Term

1802-2005 3.5%

Major Sub-Periods

I 1802-1870 4.8%II 1871-1925 3.7%III 1926-2005 2.2%

Post-War Periods

1946-2005 1.4%1946-1965 -1.2%1966-1981 -4.2%1981-1999 8.4%1984-2005 6.0%

Updated through December 31, 2005


Projected Equity Returns

Earnings Yield, or 1/P-E ratio, is excellent long-term predictor of real stock returns.

Average P-E ratio in last 130 years = 15; average earnings yield 6.7%.

S&P 500 Estimate of next 12 months operating earnings $85.22 (end 4Q06)

S&P 500 (May 15) = 1287 P-E ratio 15.10, earning yield = 6.62%.

If you take reported earnings, estimate $76.41, for a P-E ratio of 167.84, EY of 5.94%

If you take core earnings estimate $76.44, P-E ratio 17.06; earnings yield 5.86%


Bond Returns and Equity Premium

Ten year at 5.15%, 30-year at 5.26%

If we subtract 2.5% for inflation, we get a real yield of 2.65% and 2.76%.

TIPs yields are 2.46% and 2.39%.

Equity Premium is almost 4% now.

Long-Term Equity Premium = 3%.


The Future for Investors


What Happened to the

Original S&P 500

Formulated in 1957?


Change in Sector Weights 1957-2005

Financials

Health Care

Information Tech

Consumer Staples

Telecom Svc

Utilities

Industrials

Consumer Discretionary

Energy

Materials

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%19

57

1959

1961

1963

1965

1967

1969

1971

1973

1975

1977

1979

1981

1983

1985

1987

1989

1991

1993

1995

1997

1999

2001

2003

2005

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%


Portfolio Performance

The dynamic, updated, S&P500 Index that serves as a benchmark returned 10.85% per year from March 1, 1957 through Dec. 31, 2003

A portfolio of original companies, where no transactions took place except for reinvestment of dividends, returned 11.40% per year, and did so with lower risk!

Why? New firms overvalued when put in index. New firms Lagged in 9 of ten sectors.


Twenty Top Performing SurvivorsReturn Rank 2003 Name Return EPS Gr

Avg PE Ratio

Dividend Yield

1 PHILIP MORRIS COS INC 19.75% 14.64% 13.15 4.07%2 ABBOTT LABS 16.51% 12.43% 21.26 2.25%3 BRISTOL MYERS SQUIBB CO 16.36% 13.24% 23.64 2.87%4 TOOTSIE ROLL INDS INC 16.11% 9.09% 16.54 2.44%5 PFIZER INC 16.03% 10.94% 24.55 2.45%6 COCA COLA CO 16.02% 10.57% 27.40 2.81%7 MERCK & CO INC 15.90% 13.11% 25.54 2.37%8 PEPSICO INC 15.54% 9.57% 20.38 2.53%9 COLGATE PALMOLIVE CO 15.22% 7.84% 21.66 3.39%10 CRANE CO 15.14% 6.93% 13.28 3.62%11 HEINZ H J CO 14.78% 11.00% 15.30 3.27%12 WRIGLEY WILLIAM J R CO 14.65% 7.49% 18.11 4.02%13 FORTUNE BRANDS INC 14.55% 4.26% 12.76 5.31%14 KROGER COMPANY 14.41% 6.25% 14.31 5.89%15 SCHERING PLOUGH CORP 14.36% 11.99% 21.41 2.57%16 PROCTER & GAMBLE CO 14.26% 9.20% 24.27 2.75%17 HERSHEY FOODS CORP 14.22% 7.36% 15.75 3.67%18 WYETH 13.99% 8.78% 20.98 3.32%19 GENERAL MILLS INC 13.77% 8.23% 18.00 3.20%20 ROYAL DUTCH PETROLEUM CO 13.64% 7.65% 12.52 5.24%

TOP 20 Average 15.26% 9.53% 19.04 3.40%

S&P 500 10.85% 5.98% 17.35 3.27%


Top Twenty on April 10, 2006

Est PE Next Yr P-E Divd YieldMO 13.27 12.46 4.77ABT 16.71 14.96 2.79BMY 20.36 18.79 4.60TR 22.92 21.18 1.03

PFE 12.26 11.57 3.81KO 18.17 16.67 2.85

MRK 14.63 14.65 4.42PEP 19.74 17.78 1.90CL 20.22 18.18 2.06CR 16.10 14.63 1.26

HNZ 18.39 16.86 3.14WWY 23.74 21.59 1.91

FO 14.94 13.34 1.86KR 14.08 13.08 1.15

SGP 34.00 23.52 1.21PG 21.83 18.98 1.97

HSY 19.54 17.69 1.89WYE 15.70 14.36 2.11RD 9.85 10.36 3.50GIS 17.04 15.89 2.67

Average 18.17 16.33 2.55Ave X SGP 17.34 15.95 2.62S&P500 18.05 15.40 1.78


Consumer Discr

Consumer Staples

Energy

Financials

Health Care

Industrials

Info Tech

Materials

Telecom SvcUtilities

S&P 500

y = 0.0753x + 0.1095

R2 = 0.3187

0%

2%

4%

6%

8%

10%

12%

14%

16%

-30% -25% -20% -15% -10% -5% 0% 5% 10% 15% 20% 25%

Sector MV Change ReturnConsumer Discr -3.28% 11.09%Consumer Staples 5.23% 13.36%Energy -15.68% 11.32%Financials 19.87% 10.58%Health Care 12.14% 14.19%Industrials -1.13% 10.22%Information Tech 14.71% 11.39%Materials -23.06% 8.18%Telecom Svc -4.00% 9.63%Utilities -4.81% 9.52%

S&P 500 Sector Market Value Expansion versus Total Return

Growth Does Not Guarantee Return

*

Info Tech EX-IBM(16.2%,10.6%)


Single Best performing Stocks Top Performing Stock From 1925-

2005– Philip Morris, Return 17.49% vs. 10.00%

Market. Top Performing Stock From 1950

– Philip Morris, Return 18.05% vs. 11.38% Market.

Top Performing Stock from original S&P 500 in 1957– Philip Morris; Return 19.88% vs. 10.73% for

S&P 500. $1,000 put in S&P 500 when it

was founded would turn into $145,352 by the end of 2005.

$1,000 put in Philip Morris at the same time would grow to over $7.0 million.


Dividend Yield and Relative Performance

$ 72,068

Low Div Yield

$ 82,341 $113,894

$351,581

High Div Yield

$517,188

$144,996 S&P 500

$1,000

$10,000

$100,000

$1,000,000

19

57

19

59

19

61

19

63

19

65

19

67

19

69

19

71

19

73

19

75

19

77

19

79

19

81

19

83

19

85

19

87

19

89

19

91

19

93

19

95

19

97

19

99

20

01

20

03

Dividend Yield Return Risk

Highest 14.22% 19.09%High 13.28% 16.49%

Middle 10.60% 16.35%

Low 9.84% 18.57%Lowest 9.53% 23.52%

S&P 500 11.17% 16.84%


The Aging of the Population

The Most Critical Long-term Economic

Issue Facing the Developed World

The Next Fifty Years


Long Term Demographic Trends

U.S. Life Expectancy and Retirement Age

56

60

64

68

72

76

80

1950-1955

1955-1960

1960-1965

1965-1970

1970-1975

1975-1980

1980-1985

1985-1990

1990-1995

1995-2000

Life Expectancy

Retirement Age

Past marked by (1) rising life expectancy and (2) falling Retirement Age

But this trend Cannot Continue

1.6 Years 14.4 Years


Age Wave -- US


Age Wave – Japan


Big Questions

The Biggest Questions Facing the Developed

World

Who Will Produce the Goods?

Who Will Buy the Assets?


Retirement Age must rise dramatically


Life Expectancy

Retirement Age

56

60

64

68

72

76

80

84

88

1950

-195

5

1955

-196

0

1960

-196

5

1965

-197

0

1970

-197

5

1975

-198

0

1980

-198

5

1985

-199

0

1990

-199

5

1995

-200

0

2000

-200

5

2005

-201

0

2010

-201

5

2015

-202

0

2020

-202

5

2025

-203

0

2030

-203

5

2035

-204

0

2040

-204

5

2045

-205

0

`

14.4 Years

9.2 Years


Productivity Growth and Retirement

Can faster productivity growth help the Aging Problem?

Let us be extraordinarily optimistic and assume future productivity growth averages 3 ½ % per year, 70% above long term average of 2.2%.


3.5% Productivity reduces retirement age 2-3 years


Life Expectancy

Retirement Age

3.5%Productivity

56

60

64

68

72

76

80

84

88

`


Immigration?

The number of immigrants to the US over the next 45 years needed to keep the retirement age in the mid 60s would be about one-half billion, far in excess of the current population.


But there is Hope

Outside the developed countries, the population of the world is much younger.

Let’s look at India.


Age Wave -- India


Trade Deficits and Aging

Throughout history, the “old” have sold assets to the young in exchange for goods.

Today in US, Florida’s retirees sell assets to and import goods from other 49 states.

In the future the US will sell its assets to the rest of the world.

Success depends on rapid growth in the developing world.

Western Europe 6.41%

U.S.4.68%

Low Income13.64%

Mid Income5.63%

Eastern Europe5.02%

Latin Am/Carib

8.57%

India16.66%

China21.05%

Hi Inc. nonOECD

1.12%

Canada0.51%

Aus / NZ0.38%

Japan2.10%

Sub-Saharan

Africa10.74%

Indonesia3.50%

World GDP 2000Population 2000

84.8%

15.2%

Western Europe

21%

U.S.22%

Low Income5%

Mid Income5%

Eastern Europe

5%

Latin Am/Carib

8%

India5%

China11%

Hi Inc. nonOECD

4%

Canada2%Aus / NZ

1%

Japan8%

Sub-Saharan

Africa2%

Indonesia1%

44.6%

56.4%

Western Europe

6%

U.S.11%

Low Income10%

Mid Income6%

Eastern Europe

3%

Latin Am/Carib

11%

India16%

China20%

Hi Inc. nonOECD

3%

Canada1%

Aus / NZ1%

Japan2%Sub-

Saharan Africa

7%

Indonesia3%

23.1%

76.9%

Population 2050 World GDP 2050


U.S.4.26%

Low Income17.38%

Mid Income5.54%

Eastern Europe2.39%

Latin Am/Carib

8.64%

India16.86%

China15.68%

Hi Inc. nonOECD

1.32%

Canada0.43%

Aus / NZ0.33%

Japan1.17%

Sub-Saharan

Africa18.88%

Indonesia3.34%

11.8%

88.2%

0% 20% 40% 60% 80% 100%

U.S.

Western Europe

Japan

Canada

Aus / NZ

Hi Inc. nonOECD

China

India

Latin Am/Carib

Eastern Europe

Mid Income

Low Income

Sub-Saharan Africa

Indonesia

Per Capita IncomeRelative to US 2000

Per Capita IncomeRelative to US 2050

0% 20% 40% 60% 80% 100%

U.S.

Western Europe

Japan

Canada

Aus / NZ

Hi Inc. nonOECD

China

India

Latin Am/Carib

Eastern Europe

Mid Income

Low Income

Sub-Saharan Africa

Indonesia


Retirement Age with high growth in LDCs


Life Expectancy

Retirement Age Developing

Countries High Growth

56

60

64

68

72

76

80

84

88

1950

-195

5

1955

-196

0

1960

-196

5

1965

-197

0

1970

-197

5

1975

-198

0

1980

-198

5

1985

-199

0

1990

-199

5

1995

-200

0

2000

-200

5

2005

-201

0

2010

-201

5

2015

-202

0

2020

-202

5

2025

-203

0

2030

-203

5

2035

-204

0

2040

-204

5

2045

-205

0

`


The Global Solution

The answer to our question: Who will produce our goods?

Who will buy our assets?

Is the same:The Developing Countries

By the middle of this century Developing Countries will

own most of world’s capital.



U.S.41.21%

Low Income0.53%

Mid Income0.53%

Eastern Europe1.14%

Latin Am/Carib

2.00%

India1.90%

China1.19%

Hi Inc. nonOECD

5.30%

Canada2.99%

Aus / NZ2.08%

Japan14.82%

Sub-Saharan

Africa0.38%

Indonesia0.03%


U.S.16.59%

Low Income6.37%

Mid Income5.56%

Eastern Europe3.43%

Latin Am/Carib10.62%

India14.06% China

20.33%

Hi Inc. nonOECD

3.15%

Canada1.11%

Aus / NZ0.72%

Japan2.64%

Sub-Saharan

Africa4.23% Indonesia

2.36%

Stock Market Capitalization 2000

7.7% 92.3% 33.0%

67.0%

Stock Market Capitalization 2050


New Professors interviewed at Wharton in 2006

Day Date Type Candidate School Where From?

Thursday 12-J an MI CRO Pavel Savor Harvard Canadian from Latin America

Tuesday 17-J an MACRO Virgiliu Midrigan Ohio State Moldova

Thursday 19-J an MI CRO Camelia Kuhnen Stanford Romania

Thursday 26-J an MI CRO Vito Gala Chicago I talian

Tuesday 31-J an MACRO Emmanuel Farhi MI T French from N. Africa

Thursday 2-Feb MI CRO Gustavo Manso Stanford Brazil

Tuesday 7-Feb MACRO Santiago Bazdresch Yale Mexico

Thursday 9-Feb MI CRO Zhi Da Northwestern Singapore

Tuesday 14-Feb MI CRO Gustav Sigurdsson Princeton I celand

Thursday 16-Feb MI CRO J an Schneider British Columbia Germany

Tuesday 21-Feb MI CRO Peter Kondor London Economics Budapest/ Hungary

Thursday 23-Feb MI CRO Dana Kiku Duke Ukraine

Thursday 2-Mar MI CRO Yuri Tserlukevich UC Berkeley - Haas Belarus

Wharton Finance Department Recruitment Seminar Schedule: J anuary - March 2006


Growth and Stock Return in Emerging Markets

Emerging Markets

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

-2% -1% 0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 10%

Total Real GDP Growth

Do

llar

Ret

urn

China

CountryGDP

GrowthStock

Returns

Singapore 6.91% 5.23%Malaysia 6.75% 6.39%Korea 6.18% 4.66%Thailand 5.92% 6.41%Chile 5.90% 19.33%Indonesia 4.85% 5.84%Hong Kong 3.97% 10.77%Philippines 3.67% 2.09%Turkey 3.30% 10.02%Portugal 2.96% 3.71%Jordan 2.93% 3.88%Mexico 2.93% 22.31%Greece 2.73% 12.39%Brazil 1.80% 18.46%Argentina 1.40% 17.71%China* 9.30% -9.85%India* 6.06% 6.51%Sri Lanka* 4.52% 2.04%Poland* 4.42% 16.63%Peru* 4.32% 14.61%Israel* 3.67% 4.98%Pakistan* 3.45% 4.60%South Africa* 2.59% 10.47%Colombia* 2.22% 5.16%Venezuela* -1.03% 3.95%S

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Conclusions

Price and dividend, not sector growth, fundamental to long-term returns

I believe that growth in developing world will offset slowing in aging economies and support future equity prices.

Do not jump into emerging markets without examining valuation.

These returns are far above what can be expected in bonds or even real estate.


Visit JeremySiegel.com

Future for Investors Prof. Jeremy J. Siegel ~ The Wharton School FPA Symposium ~ May 23, 2006.

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Transcript of Future for Investors Prof. Jeremy J. Siegel ~ The Wharton School FPA Symposium ~ May 23, 2006.