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We are just a couple of trading days from closing down a very successful decade for U.S. equity markets. This article takes a look at how returns for the S&P 500 (NYSEARCA:SPY) and its predecessor indices compared in the 2010s versus previous decades. This analysis was conducted to see if there are any themes that could be gleaned that could have predictive value for the next decade.
Below I have tabled the total returns for the past 14 decades. The total returns are broken down into component parts - dividend, earnings growth, earnings multiple change, summing to total return. For the 1930s to 2010s, total return came from Bloomberg. I also subtracted total return from price return from the Bloomberg data to calculate the return from dividends. Earnings growth came from the long Shiller dataset, and is simply end of period earnings divided by beginning of period earnings and compiled into an annual form. Multiple change is the plug that equals the total return. For the periods from 1880s to 1920, I used Shiller's dividend data and calculated a total return directly.
Source: Robert Shiller, Bloomberg, S&P
Below are my takeaways from decade-long returns covering the modern history of the U.S. stock market.
Negative returns for a decade are still rare. We have seen two decades with negative returns - the Depression-era 1930s and the early 2000s - which sandwiched the deflation of the tech bubble and the Financial Crisis decade into one ten-year period.
While the 2010s saw strong returns, they are certainly not unprecedented. The 1920s, 1950s, 1980s, and 1990s all featured higher total returns.
While current equity multiples are above their long-run trend, the solid returns of the 2010s were largely driven by earnings growth and not multiple expansion. In the century-plus dataset, the 2010s saw the strongest decade of earnings growth on record with earnings growing by more than 10% per annum. This is the most interesting observation from this analysis for me. I think if you queried the Seeking Alpha readership, many, including myself pre-analysis, would have assumed that multiple expansion was a bigger driver of returns on the decade.
Part of this earnings growth was driven by a bounce off low levels to end the previous decade. Part of this earnings growth was driven by share buybacks that reduced share count. Part of this earnings growth was driven by a shift in index weights towards higher growth sectors. Whatever the result, the fact that it was earnings growth that drove returns, and not simply multiple expansion, is notable.
Earnings growth has been similarly high before in the 1940s and 1970s. In the 1970s, the Consumer Price Index averaged 7.1%, while in the 2010s it averaged 1.8%. Real earnings growth this decade was much higher. In the 1940s, the U.S. revved up its war machine in the first half of the decade, and saw a post-war inflation boom in the back half. Real earnings growth in the 2010s was double what it was in the 1940s.
While earnings growth has been a rising proportion of total returns, dividends have been a declining source. Part of this is undoubtedly linked to the rise in share buybacks, which have essentially diverted shareholder returns from one column (dividends) to another (earnings growth via share count reduction).
As we look forward to the 2020s, the best predictor of the returns from dividends might be the currently prevailing dividend rate on the S&P 500. I would expect the dividend component of returns to be somewhere in the neighborhood of 2% for the 2020s.
After the two previous decades with roughly 10% earnings growth (the 1940s and the 1970s), earnings growth fell to 3.9% and 4.4% over the next decade, respectively. The 1950s saw two mild recessions in 1953 and 1958, and the 1970s saw a significant recession in the middle of the decade following the OPEC-driven oil crisis. The 2010s, the first decade on record without a recession, will likely give way to an economic and earnings contraction at some point in the 2020s. Offsetting, some gravitational pull on earnings growth, the trend towards higher share buybacks could provide a positive offset. Overall, we should expect earnings growth to normalize to some degree. I would estimate an annualized earnings growth figure of around 6%, modestly lower than the figure achieved during the 1990s.
The big question for investors then would be what is going to happen with earnings multiples? Earnings multiples expanded only modestly in the 2010s, so one might argue that we could see further expansion in the 2020s. Multiples are above historical averages today. Part of the reason we show limited earnings multiple growth in the 2010s is that multiples were relatively high at the end of the 2000s. Multiples were high at that time because trailing earnings were low, coming off of the recession and forward earnings growth was estimated (correctly) to be quite high. If we are forecasting slower earnings growth in the decade ahead, perhaps there needs to be some multiple contraction to account for slower growth. I would estimate that we could see a contraction in equity multiples that reduces annual returns by roughly 2%.
That puts my central tendency for returns in the 2020s at roughly 6% annualized, lower than the long-run trend of roughly 9% for this full dataset, or the post-WWII average in the 10-11% area. I hope this historical analysis of decade-long returns puts the 2010s into context, and offers a degree of potential framing for the decade ahead. Please share your own thoughts in the comments section about where you forecast annualized returns in the 2020s.
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Disclosure: I am/we are long SPY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Disclaimer: My articles may contain statements and projections that are forward-looking in nature, and therefore inherently subject to numerous risks, uncertainties, and assumptions. While my articles focus on generating long-term risk-adjusted returns, investment decisions necessarily involve the risk of loss of principal. Individual investor circumstances vary significantly, and information gleaned from my articles should be applied to your own unique investment situation, objectives, risk tolerance, and investment horizon.