Monetary policy and the search for yield: Neil Irwin writes that the S&P is yielding 6.7 percent right now (this is just 1 over a P/E ratio of 14.8). Now compare that yield of 6.7 percent to what a risk-free asset is paying right now. For 10-year Treasury bonds, that’s 1.8 percent. The gap between those two numbers, nearly 5 percentage points, is, in effect, the extra compensation investors receive for investing in risky stocks instead of safe bonds…. In the summer of 2007, the stock market earnings yield was 5.8 percent… [and] 10 year Treasury bonds were yielding 5.1 percent. And the current boom has almost nothing in common with the bubble that ended in March 2000… a 3.2 percent earnings yield… Treasuries… yielding 6 percent.
The S&P earnings yield is a real return. The 10-Year Treasury yield is a nominal return. He should be comparing the 6.7%/year equity yield to a -2%/year real return on short-term safe nominal Treasuries, or to the -0.3%/year real return on Treasury inflation-indexed securities.
We currently have an expected equity return premium of 7%/year or 8.7%/year, depending on how you measure it. Stocks are cheap.