Investment U E-Letter: Issue # 585
Tuesday, September 26, 2006 Jeremy Siegel: Dr. Skousen interviews the author of The Future for Investors and a proponent of "buy and hold" and dividend-paying stocks
by Mark Skousen, Chairman, Investment U
Last week I drove down to the University of Pennsylvania to interview Wharton's premier financial economist Jeremy Siegel, who has written two best sellers, Stocks for the Long Run and The Future for Investors. Professor Siegel is on the cutting edge of research on the financial markets, both here and abroad. His discoveries often run counter to the conventional wisdom.
Siegel's long-run charts on stocks, bonds, T-bills and gold demonstrate that stocks far outperform all other financial assets. His latest book, The Future for Investors, reveals a paradox - that "tried and true companies triumph over the bold and the new." I urge you to get a copy and devour it. It will make you a lot of money, and save you a lot of grief. Here's part one of our interview… Jeremy Siegel's Diversification Into International Stocks Skousen: In your earlier book, Stocks for the Long Run, you argued that a stock market index like the S&P 500 was the best buy-and-hold investment, over bonds, T-bills and gold. Have you changed your mind? Siegel: I still like the idea of "buy-and-hold," although I now believe you should include at least 40% of your portfolio in international stocks. In addition, I am now associated with a management company called Wisdom Tree that has just issued dividend-weighted [rather than cap-weighted] exchange-traded funds. I prefer stock indexes that are weighted by some fundamental metric of value rather than market capitalization. Cap-weighted indexes aren't bad, but you can do better. And "value" investing is better than "growth" investing. Skousen: How about trading the market? Siegel: It's very difficult to time the market. I prefer value investing in good dividend-paying companies and reinvesting dividends. Skousen: The Future for Investors has a number of shocking discoveries. For example, you state, "The most innovative companies are rarely the best place for investors… Avoid most technology stocks… Rapid productivity growth may be good for consumers and the economy, but they can be devastating to both firms and investors." You call this the "growth trap" in your book. How so? Siegel: Most tech stocks are not good investments over the long haul. The biggest mistake investors make is chasing the high-priced growth stocks, especially technology. Our empirical work shows that the old original S&P 500 stocks outperformed the dynamic updated stocks, if you reinvested dividends. Skousen: I always thought that the reason the S&P 500 has done so well is because of the new stocks that are added every year. That's not true? Siegel: Yes, my studies go against the conventional wisdom. It was a shock even to me. For example, compare the performance of Standard Oil (now ExxonMobil) with IBM, from 1950-2003. IBM beat Standard Oil by wide margins in every growth measure that Wall Street uses to pick stocks: sales, earnings, dividends and sector growth. Yet in the end, Standard Oil earned 14.42% in total return compared to IBM's 13.83%. Why? Because despite the better fundamentals, investors paid too high a price for IBM, while old Standard Oil was cheaply priced. I call this the "growth trap." Investors make the mistake of buying the new thing, irrespective of price. Inevitably, the price is too high, and investors get bad returns. It's funny. People go to the race track, and look at the odds. But in the stock market, people look at a stock and say, "this is the best stock" and don't look at the price. Skousen: I read that you like the "low P/E" stocks. But they are slow movers, right? Siegel: Right, they're not exciting, but they're often the best performers over the long run. Why Dividends Are A Powerful Predictor Skousen: How important are dividends? Siegel: I found that the dividend yield is a very powerful predictor of stock performance, and reinvesting dividends are critically important. Now, of course, some stocks like Ford and GM cut their dividends, but… Skousen: What percentage of companies cut their dividend? Siegel: It's tiny. Skousen: Do you like stocks that consistently raise their dividends, and rising dividend funds? Siegel: Ever since the tax rate was cut to 15% for dividends, more companies are paying dividends and increasing their dividends. If you just bought the stocks in the S&P 500 with the highest dividends over the past 50 years, you would have made 300 basis points per year more than the index itself. That's a huge difference. Skousen: You speak highly of Philip Morris, or Altria. But at $82 a share, and yield down to 4%, P/E of 15, is it still a good deal? Siegel: I highlight Philip Morris in my book, but right now, it's pretty much fully priced. I also like the big pharmaceuticals like Pfizer and Merck that pay a high dividend. Companies with a franchise and brand name get back on track eventually. Skousen: How about GM and Ford? Siegel: They have a big problem, especially with pension liabilities. They were never in the corporate El Dorados in my book; they were far too cyclical. Chairman's Note: On Friday, I'll have the second half of Professor Siegel's interview, where he talks about the benefits of owning high-dividend paying stocks such as REITs and Canadian oil & gas trusts; why junk bonds are better than safe Treasuries; why commodity stocks are better than commodities themselves; and the most important lesson he's learned about investing in his 30 years at Wharton.
Good trading, AEIOU,
Mark
Professor Siegel and I in front of one of the original trading desks at the New York Stock Exchange.
Today's Investment U Cribsheet - To get your copy of The Future for Investors, find it here on Amazon.
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