A super-bullish report from Goldman Sachs (NYSE:GS) analysts called “The Long Good Buy; the Case for Equities” is out today. It’s over 40 pages and has some heady stuff in there, but most importantly it makes the argument that stocks — particularly big dividend payers — are super cheap relative to bonds. That means long-term investors looking 10 or 20 years down the road should jump into dividend payers immediately, and not look back.
Here’s the argument in three parts:
In the early 20th century, the stock market was largely viewed as a volatile asset class that underperformed bonds, and thus was not very seriously seen as an investable opportunity for most. Institutions shunned stocks, even those with tremendous dividends, and chased lower-yield in bonds because of the stability. It was a bull market for bonds.
As decades passed, institutions slowly warmed up to the idea of taking on the risk of the equities market. The money started to flood into stocks and mutual funds — pushing equities higher, but driving down dividend yields in equities. After all, as the price of a stock goes up, the yield naturally goes down. But the profits were there on the equities side, so institutions cared less about dividends. This narrowed the gap between bond yields and stock dividends a few decades ago, so equities no longer were “better-paying” investments.
And here we arrive at the present situation. Dividend yields are improving for stocks, and bond yields are paltry. The gap is the smallest it has been in decades — and in many cases, favors dividend stocks.
Consider that Apple Inc. (NASDAQ:AAPL) just decided to pay a 1.8% dividend. That’s big news for income investors, but equally compelling is that the Apple dividend won’t be that far behind 10-year Treasury yields! When you throw in big dividend payers including telecoms like AT&T (NYSE:T) or pharma stocks like Pfizer (NYSE:PFE) or utility stocks like Southern Company (NYSE:SO) — all of which yield more than 4% right now — it’s easy to see the appeal of stocks, at least from an income perspective.
Beyond just the prospect of yield, when you bake in the returns of the equities themselves, Goldman makes the case that stocks have outperformed bonds. From 1956 to 2000, returns were a very nice 7.4% annually and dramatically outperformed bonds.
Of course, Goldman is assuming that we will revert to some of the older models in the above chart … because, as you can see, the recent history of bonds vs. equities hasn’t been in favor of stocks at all — high-yield or otherwise.
The challenge, then, is to ask yourself whether you think we will revert to a more stable capital markets environment and resume the relationships of old. If so, then Goldman Sachs is right — buy now!
But if you believe something has been fundamentally altered in how investors perceive risk and how the bond and stock markets function in a post-Lehman world … well, then you probably subscribe to the adage that “past performance is no guarantee of future returns.”
Jeff Reeves is the editor of InvestorPlace.com, and the author of “The Frugal Investor’s Guide to Finding Great Stocks.” Write him at editor@investorplace?.com or follow him on Twitter via @JeffReevesIP. As of this writing, Jeff did not hold a position in any of the aforementioned stocks.