The concept of Equity Risk Premium (ERP) could be viewed through the lens of two marketplace components - a risk-free rate and the market's earnings yield (see chart). Prior to the Great Financial Crisis ('08-'09) the risk-free rate (presented by the yield on the 10-Year U.S. Treasury Bond) and the market's earnings yield (illustrated by the S&P 500 Index Earnings divided by Price) converged. Lately, a similar convergence is demonstrating itself once again, as a result of this past year's Federal Reserve rate hikes. Such convergence begs the following question for many investors, "why continue to invest so much in price volatile stocks, when I can now get a decent return on short-term bonds?". In essence, the premium (or extra return) an investor could expect to receive relative to a risk-free rate of return is reduced during these periods of convergence.
Research Highlights - 06/11/2023
