The Future for Investors

by Jeremy J Siegel

  6. Burton G. Malkiel, A Random Walk Down Wall Street, 8th ed. (New York: W.W. Norton, 2003), 77.

  7. Christopher Palmeri and Steven V. Brull, “If You’ve Got It, Spend It: Gary Winnick Is Spreading His Millions Around with Gusto,” Business Week, October 16, 2000.

  8. Denis Berman, “Dialing for Dollars,” Wall Street Journal, August 12, 2002, A1.

  9. Ibid.

  10. Randall E. Stross, eBoys: The First Inside Account of Venture Capitalists at Work (New York: Crown Business, 2000).

  11. Ariana Eunjung Cha, “ ‘Johnny Appleseed’ for a Risky Field,” Washington Post, November 13, 2002.

  12. See Jay Ritter, “Some Factoids about the 2003 IPO Market,” August 2004, 9, available on his website at http://bear.cba.ufl.edu/ritter/IPOs2003.pdf.

  13. Benjamin Graham, The Intelligent Investor (New York: HarperCollins, 1984).

  14. Charles Mackay, Extraordinary Popular Delusions and the Madness of Crowds, Martin Fridson, editor (New York: John Wiley & Sons, 1996).

  15. Ibid.

  16. This was worth $10,000, or about $150,000 in today’s dollars.

  17. Edward Chancellor, author of Devil Take the Hindmost, claims that MacKay’s recounting of this secret enterprise is apocryphal. Nevertheless, I fully agree with Jason Zweig, who e-mailed me that although the anecdote is ahistorical, “It’s a darn shame, it’s such a good … reminder of the danger of ‘blind pools,’ ” investment vehicles where the use of the funds is not specified. These were sold to the public in the 1920s but are now outlawed.

  18. I thank Michael Lewis, who brought this firm to my attention through Bloomberg News to its subscribers.

  19. Malkiel, A Random Walk Down Wall Street, 56.

  7: Capital Pigs: Technology as Productivity Creator and Value Destroyer

  1. Scott Thurm, “Costly Memories, Behind TiVo, iPod, and Xbox: An Industry Struggles for Profits,” Wall Street Journal, October 14, 2004, A1.

  2. Yochi J. Dreazen, “Telecom Carriers Were Driven by Wildly Optimistic Data on Internet’s Growth Rate,” Wall Street Journal, September 26, 2002, B1.

  3. Wall Street Journal, op cit.

  4. “The Great Telecom Crash,” The Economist, July 18, 2002.

  5. This and other data were reported in Dennis K. Berman, “Behind the Fiber Glut—Innovation Outpaced the Marketplace,” Wall Street Journal, September 26, 2002, B1.

  6. Dennis K. Berman, “Telecom Investors Envision Potential in Failed Networks,” Wall Street Journal, August 14, 2003, 1.

  7. “Too Many Debts; Too Few Calls,” The Economist, July 20, 2002, 59.

  8. While exact Internet usage numbers are hard to come by, highly regarded estimates for traffic growth were 107 percent in 2001, 87 percent in 2002, and 76 percent in 2003. See Andrew Odlyzko, “Internet Traffic Growth: Sources and Implications,” n.d., available at http://www.dtc.umn.edu/~odlyzko/doc/itcom.internet.growth.pdf.

  9. “The Great Telecom Crash,” The Economist, July 18, 2002, 59.

  10. Dennis K. Berman, “Technology Races Far Ahead of Demand and the Workplace,” Wall Street Journal, September 26, 2002.

  11. See http://www.bankruptcydata.com.

  12. Berman, “Telecom Investors Envision Potential in Failed Networks.”

  13. See Dreazen, “Telecom Carriers Were Driven by Wildly Optimistic Data”; “Too Many Debts; Too Few Calls”; Odlyzko, “Internet Traffic Growth.”

  14. Chairman’s letter, Berkshire Hathaway annual report, 1985.

  15. Ibid.

  16. Morgan Stanley did a similar study over a shorter period in “Watch Their Feet, Not Their Mouths,” U.S. and the Americas Investment Perspectives, New York, October 7, 2002.

  17. Mark Odell, “Carriers Relish Some Big Net Savings,” Financial Times, July 24, 2000.

  18. Scott McCartney, “Web Effect Is Greater on Airline Revenue Than Costs,” Wall Street Journal, October 17, 2002, B2.

  19. Jim Collins, Good to Great: Why Some Companies Make the Leap … and Others Don’t (New York: HarperBusiness, 2001), 163.

  8: Productivity and Profits: Winning Managements in Losing Industries

  1. PBS Home Video, “Warren Buffett Talks Business,” filmed in 1994 at the Keenan Flagler Business School at the University of North Carolina.

  2. Berkshire Hathaway annual report, 1996.

  3. Jim Corridore, Industry Surveys: Airlines, Standard & Poor’s, New York, May 20, 2004.

  4. Berkshire Hathaway annual report, 1999, in reference to why he avoided technology stocks.

  5. Sam Walton, Sam Walton: Made in America (New York: Bantam, 1993), 91.

  6. Branford Johnson, “Retail: The Wal-Mart Effect,” McKinsey Quarterly, 2002, no. 1.

  7. Walton, Sam Walton: Made in America, 262.

  8. Jim Collins, Good to Great, 155–56.

  9. Ibid., 156.

  10. Ibid.

  11. Ken Iverson, Plain Talk (New York: Wiley, 1997), 54–59.

  12. Pankaj Ghemawat and Henricus Stander, “Nucor at a Crossroads,” case study 9-793-039, Harvard Business School, 1992 (revised 1998), 7.

  13. Fortune, December 13, 1988, 58, cited in Ghemawat and Stander, “Nucor at a Crossroads,” 9.

  14. Jim Collins, Good to Great, 138.

  9: Show Me the Money: Dividends, Stock Returns, and Corporate Governance

  1. The 1871–2003 period is analyzed because this is when data on dividends, available from the Cowles Foundation studies, become very reliable. Jeremy Siegel, Stocks for the Long Run, 3rd ed. (New York: McGraw-Hill, 2002).

  2. Andy Kessler, “I Hate Dividends,” Wall Street Journal, December 30, 2002.

  3. Sara B. Moller, Frederik Schlingemann, and Rene Stulz, “Wealth Destruction on a Massive Scale? A Study of Acquiring-Firm Returns in the Recent Merger Wave,” NBER working paper no. 10200, December 2003.

  4. Jarrad Harford, “Corporate Cash Reserves and Acquisitions,” School of Business Administration, University of Washington, November 1998, quote from abstract.

  5. As related by Roger Lowenstein in his book Buffett: The Making of An American Capitalist (New York: Random House, 1996), 133n.

  6. Nightline, ABC News, May 21, 2003.

  7. Berkshire Hathaway annual report, 1999, 17.

  8. Jeremy Siegel, “The Dividend Deficit,” Wall Street Journal, February 19, 2001.

  9. Raj Chetty and Emmanuel Saez, Dividend Taxes and Corporate Behavior: Evidence from the 2003 Dividend Tax Cut, NBER Working Paper, 10841.

  10. Blaine Harden, “For Years, Many Microsoft Millionaires Hit the Options Key,” Washington Post, August 5, 2003.

  11. The Financial Economists Roundtable, of which I am a member, meets every year to discuss important issues facing financial institutions and our economy. In 2003, the topic was “executive compensation,” and we concluded that the excessive issuance of stock options were distorting management incentives and the income statements of firms, and called for the repeal of section 162 (m) of the Internal Revenue Code.

  10: Reinvested Dividends: The Bear Market Protector and Return Accelerator

  1. The level of earnings in 1954 turned out to be almost exactly what would have been predicted by drawing a trend line through real per-share earnings growth from 1871 through 1929.

  2. Hubert B. Herring, “Marlboro Man Rides a Bit Lower in the Saddle,” New York Times, April 4, 1993.

  3. The only close call occurred in Rose Cippoline’s lawsuit against Philip Morris in 1988. This was the first case a tobacco company lost. Cippoline had smoked cigarettes since age seventeen, and the jury awarded Cippoline’s husband $400,000 in damages. But upon appeal the verdict was overturned.

  4. The total punitive damages were $145 billion, and Philip Morris was assessed about half of that level, since it sells about half of the cigarettes in the United States.

  5. James Glassman, a financial writer, claimed that John Slatter, a Cleveland investment advisor and writer, invented the Dow 10 system in the 1980s. Harvey Knowles and Damon Petty popularized the strateg
y in their book The Dividend Investor: A Safe, Sure Way to Beat the Market (Chicago: Probus, 1992), as did Michael O’Higgins with John Downes in Beating the Dow: A High-Return, Low-Risk Method for Investing in the Dow Jones Industrial Stocks with as Little as $5,000 (New York: HarperCollins, 1991). See John R. Dorfman, “Study of Industrial Averages Finds Stocks with High Dividends Are Big Winners,” Wall Street Journal, August 11, 1988, C2.

  6. See Alon Braz, John R. Graham, Campbell R. Harvey, and Roni Michaely, “Payout Policy in the 21st Century,” NBER working paper no. 9657, April 2003, and Franklin Allen and Roni Michaely, “Payout Policy,” Wharton Financial Institutions Center, April 2002.

  7. Byron Wien and Frances Lim, “Lessons from Buyback and Dividend Announcements,” October 4, 2004.

  8. As a result of this exemption, the dividends they pay are not subject to the new 15 percent federal tax on dividends.

  11: Earnings: The Basic Source of Shareholder Returns

  1. Forbes debate with Robert Arnott, April 29, 2004. Ira Carnahan, “Should You Still Be a Bull?,” Forbes, April 19, 2004.

  2. Earnings filed with the IRS may differ from these.

  3. It was partly the reaction of investors themselves that spurred management to increase write-offs. In the 1990–91 recession, investors bought firms that had large write-offs under the assumption that they would drop losing divisions and become more profitable.

  4. Berkshire Hathaway annual report, 1992.

  5. Bear Sterns Research, “Stock Option Valuation: Evolving to Better Valuation Models,” June 2004.

  6. David Stires, “The Breaking Point,” Fortune, February 18, 2003.

  7. Tim Carvell, “The Year in Ideas: Core Earnings,” New York Times Magazine, December 15, 2002, 76.

  8. Open letter from Warren Buffett to David Blitzer, managing director of Standard & Poor’s, dated May 15, 2002.

  9. “Do Stock Prices Reflect Information in Accruals and Cash Flows About Future Earnings?” Richard Sloan, The Accounting Review, 71, 1996.

  10. “Do Analysts and Auditors Use Information in Accruals,” Richard Sloan, Mark T. Bradshaw, and Scott A. Richardson, Journal of Accounting Research, 39, 2001.

  11. Leonard Nakamura, “What Is the U.S. Gross Investment in Intangibles: (At least) One Trillion Dollars a Year,” Working Paper no. 01-15, Federal Reserve Bank of Philadelphia, October 2001.

  12: Is the Past Prologue? The Past and Future Case for Stocks

  1. Jeremy Siegel, Stocks for the Long Run, 3rd ed. (New York: McGraw-Hill, 2002), 13.

  2. See S. J. Brown, W. N. Goetzmann, and S. A. Ross, “Survival,” Journal of Finance 50, 1995, 853–73.

  3. Adapted from Elroy Dimson, Paul Marsh, and Mike Staunton, Triumph of the Optimists: 101 Years of Global Investment Returns (Princeton: Princeton University Press, 2002).

  4. Elroy Dimson, Paul Marsh, and Mike Staunton, “Global Investment Returns Yearbook 2004,” ABN-AMRO, February 2004.

  5. Elroy Dimson, Paul Marsh, and Mike Staunton, Triumph of the Optimists, 175. In fact, Triumph of the Optimists may have actually understated long-term international stock returns. The U.S. stock markets, and other world markets for which we have data, did very well in the thirty years prior to 1900, when their study begins. U.S. returns measured from 1871 outperform those returns taken from 1900 by 32 basis points. Data from the United Kingdom show a very similar pattern.

  6. Ibid.

  7. Robert Arnott in Ira Carnahan, “Should You Still be a Bull?” Forbes, April 19, 2004.

  13: The Future That Cannot Be Changed: The Coming Age Wave

  1. Peter Peterson, Gray Dawn: How the Coming Age Wave Will Transform America—and the World (New York: Three Rivers Press, 2000), cover of book.

  2. Ibid., 18.

  3. These data are taken from Peter Drucker’s essay “The Next Society,” The Economist, November 3, 2001, this page of survey.

  4. Assume people begin working at age twenty and retire at sixty-five, so the ratio is the number of people between twenty and sixty-four divided by the number of people sixty-five and over.

  5. Cited in Paul Wallace, Agequake: Riding the Demographic Rollercoaster Shaking Business, Finance, and Our World (London: Nicholas Brealey Publishing, 1999), 31.

  6. Peterson, Gray Dawn, 20.

  7. Gary Becker, in Wallace, Agequake, 135–144.

  8. Wallace, Ibid., 21.

  9. James Vaupel, “Setting the Stage: A Generation of Centenarians?” Washington Quarterly 23, 3 (2000): 197–200.

  10. Gina Kolata, “Could We Live Forever?” New York Times, November 11, 2003.

  11. Testimony before the Senate Special Committee on Aging, Hearing on “The Future of Human Longevity: How Important Are Markets and Innovation?” June 3, 2003.

  12. “Forever Young,” The Economist, March 27, 2004, 6.

  13. National Vital Statistics Reports 51, 3 (2002), Centers for Disease Control and Prevention, National Center for Health Statistics.

  14. Peterson, Gray Dawn, 34.

  15. Although the Social Security system is gradually raising the age at which full benefits are being paid—to sixty-seven from sixty-five—from 2002 through 2027, the minimum age at which benefits are being paid, sixty-two, has not been increased.

  16. “Forever Young,” op. cit., 15.

  17. Nicholas Vanston, “Maintaining Prosperity,” Washington Quarterly 23, 3 (2000): 225–38.

  18. Pauline Givord, “The Decline in Participation Rates Among the Older Age Groups in France,” paper presented at the conference “Ageing, Skills and Labour,” sponsored by the European Network of Economic Policy Research Institutes, Nantes, France, September 7–8, 2001.

  19. The tax rates used to fund Social Security are shared equally by the employer and the employee up to a given level of income, which is about twice the national average. In 2004, the total Social Security tax rate is 12.4 percent on earned income up to $87,900.

  20. Paul Samuelson, “Social Security,” Newsweek, February 13, 1967.

  21. If the Fed tries to stop this inflation by tightening the money supply, this will cause wages to fall dramatically, again setting the stage for generational conflict.

  14: Conquering the Age Wave: Which Policies Will Work and Which Won’t

  1. Peter Peterson, Running on Empty (New York: Farrar, Straus and Giroux, 2004), 195.

  2. Productivity throughout will refer to labor productivity. There are other productivity measures that correct for the quantity and quality of labor and capital.

  3. One of the important exceptions is Great Britain’s public pension system, which changed its policy in 1995 to pay benefits that are only indexed to inflation, not to the general level of wages. As a result, Great Britain’s pension system is also one of the few in the developed world that is solvent on a long-term basis. But this solvency comes at the cost that those retiring years from now will receive a benefit far lower than the wages they received before retirement.

  4. See Robert M. Solow, “A Contribution to the Theory of Economic Growth,” Quarterly Journal of Economics 70 (1956): 65–94.

  5. Albert Ando, Dimitrios Christelis, and Tsutomu Miyagawa, “Inefficiency of Corporate Investment and Distortion of Savings Behavior in Japan,” NBER working paper no. 9444.

  6. Paul S. Hewitt, “The Gray Roots of Japan’s Crisis,” Asia Program Special Report, Woodrow Wilson International Center for Scholars, January 2003.

  7. “A Shrinking Giant,” The Economist, January 8, 2004.

  8. Pierre Sicsic and Charles Wyplosz, “French Post-War Growth from (Indicative) Planning to (Administered) Market,” Centre for Economic Policy Research, discussion paper no. 1023, 1994.

  9. The trustees of the Social Security System have measured the sensitivity of their revenue and cost equations to the rate of productivity growth. The increase in productivity needed to balance Social Security over the next seventy-five years is far more modest, but this understates the productivity needed to balance the system by midcentury since it includes all the s
urpluses the system will accrue over the next two decades.

  10. Remarks by Chairman Alan Greenspan, at the Securities Industry Association annual meeting, Boca Raton, Florida, November 6, 2003.

  11. Edward Prescott, “Why Do Americans Work So Much More Than Europeans,” Federal Reserve Bank of Minneapolis Quarterly Review 28, 1 (2004): 2–13.

  12. Jeremy Rifkin, The European Dream: How Europe’s Vision of the Future Is Quietly Eclipsing the American Dream (New York: Penguin Books, 2004), 14.

  13. Steven J. Davis and Magnus Henrekson, “Tax Effects on Work Activity, Industry Mix and Shadow Economy Size: Evidence from Rich-Country Comparisons,” NBER working paper series no. 10509.; National Bureau of Economic Research, 2004.

  14. Helvering vs. Davis (1937) and Fleming vs. Nestor (1960).

  15: The Global Solution: The True New Economy

  1. Joel Mokyr, The Lever of Riches: Technological Creativity and Economic Progress (New York: Oxford University Press, 1990), 20.

  2. Ibid., 29.

  3. Michael Kremer, “Population Growth and Technological Change: 1,000,000 B.C. to 1990.” Quarterly Journal of Economics, 108 (August 1993): 681–716.

  4. William D. Nordhaus, “Do Real Output and Real Wage Measures Capture Reality? The History of Lighting Suggests Not,” in Timothy F. Bresnahan and Robert J. Gordon, eds., The Economics of New Goods (Chicago: University of Chicago Press, 1997), 29–66.

  5. Roy Porter, “The Eighteenth Century,” in Lawrence Konrad et al., eds., The Western Medical Tradition, 800 BC to AD 1800 (Cambridge: Cambridge University Press, 1995).

  6. Michael Hart, The 100: A Ranking of the Most Influential Persons in History (New York: Citadel Press, 1994), 38.

  7. Quoted in Julian Simon, The Ultimate Resource 2: People, Materials, and Environment (Princeton: Princeton University Press, 1996), Chapter 26.

  8. See Applied History Research Group, University of Calgary, “The Ming Dynasty’s Maritime History,” available at http://www.ucalgary.ca/applied_history/tutor/eurvoya/ming.html.