Many thanks to Nadav Manham, who, after reading my exchange with Jim Surowiecki, pointed me to a fabulous (if long) article which Warren Buffett published in Fortune in 1977. Headlined "How Inflation Swindles the Equity Investor", it details how a huge amount of the change in stock prices can be very simply explained by considering them to be perpetual bonds with a 12% coupon — 12% being, in 1977, most companies’ ROE.
Since then, of course, US companies have levered up quite a lot, and their ROE is now much higher. But Buffett’s article is well worth revisiting all the same. For one thing, it’s the best argument I’ve ever seen in favor of companies retaining earnings rather than paying them out as dividends — something which helps explain why Berkshire Hathaway is so dividend-averse. After reading Buffett, you’re inclined to think that pretty much all companies trading above book value should do the same. And for another thing, it’s easy to see, using Buffett’s lens, why stock prices have risen so far since his article came out, thanks to a combination of falling interest rates, low inflation, and higher leverage.
William Bernstein also has an interesting stocks-as-weird-bonds lens, explaining that dividends never fall as fast as stock prices, and that therefore long-term investors actually want stocks to go down, since that increases the value of their reinvested dividends.
What any of this means for today’s stock-market investors I have no idea. But at the very least it’s a refreshing change from the noisy and unhelpful daily stream of commentary on which stocks are up and which are down from where they opened this morning.