Founder: The logic of investing in US stocks remains unchanged, but the expected returns need to be adjusted due to high valuations.

Core Conclusion Over the past 50 years, the long-term returns of US stocks have significantly outperformed other assets: (1) a compound annual return of 10.7%: from 1972 to 2024, US stocks have achieved a compound annual return of 10.7%, significantly outperforming other assets. Since 2012, the excess advantage of US stocks has been evident; (2) The high returns but low volatility characteristics of US stocks make them a dominant asset among global risk assets: from a risk-return perspective, the risk-return ratio of US assets is close to the efficient frontier. The return rate of US stocks is the highest, with volatility higher than bonds and real estate, but far lower than commodities. Behind the long bull market of US stocks: profit-driven + macro drivers: (1) The dominant position of corporate profits is an important reason for the leading position of US stocks in global equity markets: Analyzing the S&P 500 returns from 1970 to 2024, out of the 10.9% compound return, profit growth contributed 6.6%, dividend growth 2.2%, and valuation changes 1.8%, with approximately sixty percent coming from profits; (2) The relative stability of the US stock market, characterized by a "long bull, short bear" trend, can largely be attributed to its status as a core asset for US residents, with a strong "macro drivers" attribute: US stocks have become the most important asset for US residents. When US stocks experience a sharp drop, the Federal Reserve tends to adopt loose monetary policies to support the market. The Fed Put effect is frequently seen in the US stock market, and listed companies also play a stabilizing role through dividend buybacks. Looking ahead, based on a 10-year horizon, the probability of a decrease in long-term returns of US stocks is high: (1) According to overseas institutions, the median annual return rate of US stocks in the next 10 years is expected to be around 5.8%: One reason for the cautiousness of overseas institutions is the high valuation of US stocks, especially before the recent significant decline. Another reason is the high concentration of the US stock market, which implies increased market instability, and may lead to more severe declines during periods of market downturns; (2) The AIAE indicator points to a likely decrease in future returns of US stocks: AIAE refers to the overall market equity allocation ratio, reflecting investors' allocation ratio in the stock market. In recent years, it has been widely used in predicting the long-term returns of US stocks. As of Q4 2024, the AIAE indicator is at its highest level since 1951, indicating a likely decline in future returns of US stocks; (3) According to a three-factor model of corporate profits, valuations, and dividend payouts, the estimated annual return of US stocks in the next 10 years may be around 6.1%: The expected compound annual return rates of corporate profits, valuations, and dividend payouts from 2025 to 2034 are 6.9%, -2.7%, and 2.0% respectively, resulting in a projected annual return of 6.1% for US stocks, close to the median expectation of overseas institutions. The logic of investing in US stocks has not undergone a substantial change, but in a context of relatively high valuations and risk preferences, expectations for future returns of US stocks need to be lowered: Looking ahead, the trend of US economic and corporate profits has not undergone substantial changes, indicating that the profit-driven nature of US stocks remains unchanged. However, in a context of relatively high valuations and risk preferences, it is reasonable to lower expectations for the return rates of US stocks. Risk warning: Past experience does not guarantee future results; there may be errors in model calculations; major changes may occur in the US economy and industrial structure. Main Text Since the beginning of the year, US stocks have experienced significant adjustments, with short-term trends attracting attention, while long-term trends have also sparked discussions. As of March 25, the Nasdaq index and the S&P 500 have declined by -7.7% and -2.9% respectively since the beginning of the year, underperforming in the global market. As US stocks continue to face downward pressure, discussions have also arisen about the long-term trends of US stocks, especially as the policies of the Trump administration 2.0 continue to progress, leading to a significant increase in economic policy uncertainty. The traditional "American economic exceptionalism" is being questioned, sparking thoughts about the future long-term returns of US stocks. 1. Review of long-term returns of US stocks: significantly outperforming other assets 1.1 Over the past 50 years, the compound return rate of US stocks has reached 10.7% Looking at historical returns, from 1972 to 2024, US stocks have achieved a compound return rate of 10.7%, significantly outperforming other assets. Since 2012, the excess advantage of US stocks has been evident. Based on the availability of data, starting from 1972, the return rates of major asset classes in the US from 1972 to 2024 were analyzed. It can be observed that from 1972 until now, the cumulative return rates of major asset classes are ranked as: stocks > REITs > gold > energy > bonds > real estate > cash > inflation > metal minerals > Shenzhen Agricultural Power Group. Starting with 1 US dollar in 1971, by the end of December 2024, the annual compound return rates of various assets were: US stocks (10.7%) > REITs (9.1%) > gold (7.9%) > energy (6.9%) > US corporate bonds (7.0%) > US treasury bonds (5.9%) > US real estate (5.3%) > commodities (4.7%) > cash (4.5%) > inflation (3.9%) > metal minerals (3.5%) > Shenzhen Agricultural Power Group (3.1%). Most assets outperformed inflation, with US stocks and REITs significantly leading, followed by gold and energy. The bull market in US stocks since 2012 has greatly widened the gap in returns compared to other assets. From a risk-return perspective, the risk-return ratio of US assets is close to the efficient frontier, with the highest return rate of US stocks and volatility higher than bonds and real estate, but far lower than commodities. According to Markowitz's mean-variance model, asset return rates are directly proportional to their risk. Assessing the risk-return ratio of various assets based on standard deviation of return rates and compound return rates, the optimal assets in order of increasing return rates are: cash, US real estate, US corporate bonds, US stocks, following the efficient frontier concept in portfolio theory. While gold and energy have relatively high annual return rates, their volatility is much higher than similar return curves for US assets. 1.2 Behind the long bull market of US stocks: profit-driven + macro drivers In the past 50 years, US stocks have been able to achieve compounded returns of over 10%.The rate of return on stocks is mainly attributed to profit growth, followed by dividend contributions, with valuation contributions being relatively minor. According to our previous report on the long-term effectiveness of value investing in A-shares, the main influences on long-term stock returns are: corporate profits, valuation changes, and dividends and buybacks. The specific formula can be simplified as: (1+ total return index return rate) = (1+ corporate profit growth rate) * (1+ P/E ratio valuation change) * (1+ dividend and buyback return rate). Analyzing the breakdown of returns of the S&P 500 from 1970 to 2024, of the 10.9% compound return, profit growth contributes 6.6%, dividend growth 2.2%, and valuation change 1.8%. This means that approximately sixty percent comes from profit contributions, around twenty percent from dividend contributions, and the contribution from valuation increases is relatively limited. It can be seen that the key to maintaining long-term good performance in the US stock market lies in listed companies being able to sustain long-term profit growth.The advantage of corporate profitability is an important reason for the leading position of US stocks in the global equity market. Comparing Europe (Stoxx 600) and the United States (S&P 500), from 2001 to 2024 with comparable statistics, the compound annual return of US stocks (8.5%) is stronger than Europe (5.2%). In terms of dividend contribution, US stocks (1.9%) are weaker than European stocks (3.3%), but in terms of corporate earnings, US stocks (6.1%) are significantly stronger than European stocks (4.1%), and valuation contribution (0.3%) is stronger than European stocks (-2.2%). Calculated based on ROE data, before 2010, the ROE of European stocks compared to US stocks was not significantly different, especially from 2002 to 2007, when the ROE of European stocks continued to rise, narrowing the gap significantly compared to US stocks. However, after 2010, with the differentiation of the US and European economies, the ROE of European stocks continued to be lower than that of the United States. As of Q4 2024, the ROE of European stocks is 13.2%, while that of US stocks is 18.3% during the same period. Furthermore, the relative stability of the US stock market, characterized by "bull markets being long and bear markets being short," is largely due to its status as a core asset for US residents. The "macro-driven" property is stronger than the "macro-driving" property, as when the US stock market experiences a significant decline, government entities such as the Federal Reserve typically intervene actively to support the market. US stocks have become the most important asset for US residents, and their wealth effect is significant for stabilizing domestic demand. According to official data from the Federal Reserve, as of Q3 2024, US stocks account for the largest share of assets in the US resident sector (29.4%), followed by real estate (25.4%), with the combined total exceeding 50%, far ahead of savings (9.9%), pensions (8.5%), and other assets. The wealth effect of US stocks is particularly significant for domestic demand, especially consumption. Observing the growth rate of net assets for residents, it generally leads personal consumption expenditure growth by a quarter. Referring to academic research by Chodorow-Reich et al. (2021), the increase in wealth in the US stock market significantly raises local employment and wage levels, especially in non-trade industries, with an increase in the marginal propensity to consume (MPC) of 3.2 cents per year. This means that for every $1 increase in stock market wealth, household consumption will increase by about 3.2 cents. During major declines in the US stock market, the Federal Reserve tends to adopt loose monetary policies to rescue the market, and the "Fed Put" effect is frequently seen in the US stock market. Referring to research by Cieslak et al., the relationship between stock market returns and changes in Federal Reserve policy objectives from 1982 to 1993 was not significant, but after 1994, the greater the decline in the stock market before the Federal Reserve's interest rate meetings, the larger the rate cut by the Federal Reserve, indicating that the Federal Reserve's sensitivity to the stock market, especially in downturn scenarios, is higher. A 10% decline in the stock market usually leads to a decrease of approximately 32 basis points in the policy rate at the following interest rate meeting, and a decrease of about 127 basis points within a year. From historical experience, major declines in US stocks during the 2020 pandemic, the 2018 trade war, and the 2008 financial crisis were all followed by the Federal Reserve initiating rate cuts. When US stocks experience significant declines, apart from government entities such as the Federal Reserve increasing countercyclical regulation efforts, listed companies also play a role as stabilizers in the stock market through dividend and repurchase actions. When company stock prices decline significantly, especially due to macroeconomic factors, companies increase dividend payments and buybacks, partly because repurchase costs are relatively low, and company interventions help boost investor confidence. From historical experience, unless faced with a major economic crisis, when US stocks are under pressure, listed companies usually increase dividend payments and repurchases to support stock prices, as seen in the typical case of 2018. From a dividend perspective, the scale of dividends in the US stock market (according to the S&P 500) reached $167.6 billion as of Q4 2024, showing fluctuating growth since 2010. During periods of pressure on US stocks, such as in 2018, Q1 2020, and the full year of 2022, the scale of dividends in the US stock market continued on an upward trend. From a repurchase perspective, the situation was particularly prominent in 2018; in times of pressure on US stocks, companies significantly increased buyback amounts in the same year to provide obvious support for stock prices. 2. Outlook for Long-Term Returns on US Stocks: Probable Marginal Decline 2.1 Median Expectation from Overseas Institutions: 5.8% According to expectations from overseas institutions, the median annualized return on US stocks over the next 10 years is expected to be around 5.8%, significantly lower than the annualized return over the past 50 years (10.7%). Summarizing the results of 15 overseas institutions' forecasts on long-term returns on US stocks between 2024 and 2025, the highest value is predicted by BNY Mellon at 7.4%, while the lowest is predicted by GMO at -6.3%, with a median of around 5.8%, lower than the annualized return from 1972 to 2024 (10.7%) and from 2015 to 2024 (12.4%), showing an overall cautious stance. One of the reasons for the cautious outlook from overseas institutions is the high valuation of US stocks, especially before the recent significant decline in US stocks. Since October 2022, along with the strength of US stocks, valuations have risen significantly. By the end of 2024, the PEs of the S&P 500 (TMM) and (FY1) reached 27.7X and 25.3X, respectively, while after the recent significant decline in US stocks, as of March 24, the valuations were 24.7X and 21.1X, still higher than the average since 2000 (18.4X, 17.5X). Although the rise in valuations is influenced by the AI industry chain, historically, high valuations typically correspond to lower subsequent returns on US stocks, so overseas institutions usually adjust their expectations for future US stock returns based on high valuations before the recent decline. Another reason for the cautious outlook from overseas institutions is the high concentration of US stocks, indicating a significantly increased market instability, which may cause more severe declines during market downturns. As of March 24, the top ten companies in the US stock market (as measured by the S&P 500) accounted for 35.8% of market capitalization, slightly lower than the level at the end of June (37.0%), but still at a high level since 2005. Since the end of 2022, with the rapid rise of the AI industry chain, the proportion of leading technology companies has rapidly increased, driving rapid growth in the US stock market, but also objectively leading to increased market concentration.High problem. At the current water level, if the development of the AI industry does not meet expectations, or continues to face significant macro impacts (such as the Trump administration's policies), it means that the momentum for US stocks to continue moving upward is limited.2.2 AIAE indicator points to the high probability of a decline in future returns in the US stock market The AIAE indicator (Aggregate Investor Allocation to Equities), which has been widely used in recent years for long-term return forecasts in the US stock market. AIAE = Market value of stocks / (Market value of stocks + Market value of bonds + Market value of cash), reflects the proportion of investors' allocation in the stock market. The AIAE indicator was developed by anonymous financial expert Jesse Livermore and was released on his personal blog in 2013. The core logic of AIAE is that the main driver of long-term stock returns is not valuation, but the stock supply relative to the total supply of bonds and cash, reflecting the concept of market risk appetite. If the current AIAE indicator is high, it means that investors' risk appetite is high, with a higher proportion of stock assets. In the context of mean reversion, the probability of a decline in stock returns is high. Since 2010, the explanatory power of AIAE on US stock returns has decreased, but currently the AIAE indicator is at its historical high, indicating a high probability of a decline in future US stock returns. Comparing AIAE and US stock returns since 1951, it can be seen that before 2010, AIAE had a good predictive power, but after 2010, as overall market risk appetite continued to rise (meaning AIAE indicator continued to expand), US stock returns remained stable at more than 10%, deviating slightly. As of the fourth quarter of 24, the AIAE indicator has increased to 52%, slightly exceeding the previous high level of 2000.03, reaching its highest level since 1951. Following the mean reversion logic implied by the AIAE indicator, the probability of a decline in future US stock returns is high. 2.3 Three-factor model: US stock returns around 6.1% Forecasting long-term returns in the US stock market is complex, but can be approximated by our previous three-factor decomposition model for stock index returns: (1 + total return index return) = (1 + enterprise profit growth rate) * (1 + PE valuation change) * (1 + dividend buyback return rate). By estimating US stock enterprise profits, PE valuation changes, and dividend returns, it is possible to approximate the forecasted US stock returns. 2.3.1 Enterprise profits Enterprise profits can be approximated by the relationship between nominal GDP growth rate and EPS growth rate. Since 1990, US stock profit growth has been generally higher than nominal GDP growth, with a clear lag only in 2007-2011. The median difference between EPS growth rate and nominal GDP growth rate since 2010 is 3.1%. On the other hand, for the nominal GDP forecast, the budget office of the US Congress (CBO) can be adopted. According to its latest forecast in January 2025, the nominal GDP growth rates in 2025-2026 are expected to be 4.4% and 3.9%, respectively, and 3.8% from 2027 to 2035. Using 3.8% nominal growth as an anchor, and the median difference of 3.1% between EPS and GDP growth rates in 2010 as a baseline, the composite EPS growth rate for US stocks from 2025 to 2034 is calculated to be 6.9%. 2.3.2 Valuation The factors affecting "valuation change" are complex, and macroscopically include factors such as interest rate levels, overall market risk appetite, and industrial structure. It is assumed that US stock valuation will return to historical median levels in the next 10 years. Data shows that since 2000, the median S&P 500 rolling price-to-earnings ratio (PE_TTM) has been 18.4X, with a median of 18.7X since 2010. Assuming that US stock valuation will return to median levels since 2010, from 24.7X in March (as of March 24) to 18.7X, the annual compound growth rate is -2.7%. 2.3.3 Dividend Distribution US stock dividend growth has been relatively stable over the past twenty years. The median annualized dividend growth rate for US stocks since 2010 is 2.0%, while the median rate since 2000 is 1.9%. Assuming that US stock dividend growth remains relatively stable in the future, with a median rate of 2.0% since 2010. 2.3.4 Calculation Results Based on the above analysis, the expected composite return rates for enterprise profits, valuation, and dividend distribution from 2025 to 2034 are 6.9%, -2.7%, and 2.0% respectively. By calculating using the formula (1 + total return index return) = (1 + enterprise profit growth rate) * (1 + PE valuation change) * (1 + dividend buyback return rate), the annualized US stock return over the next 10 years is estimated to be 6.1%, close to the median estimate of 5.8% from overseas institutions. 2.4 Conclusion Looking ahead over a 10-year horizon, there is a high probability of a marginal decline in long-term US stock returns: (1) according to overseas institutions' expectations, the median annualized return rate of US stocks over the next 10 years may be around 5.8%: one of the reasons for the cautiousness of overseas institutions is the high valuation of US stocks, especially before the recent significant decline in US stocks. Another reason is the high concentration of US stocks, which means a significant increase in market instability, leading to more serious declines during market downturns; (2) AIAE indicator points to a high probability of a decline in future returns in the US stock market: AIAE is the indicator of the overall market equity allocation, reflecting investors' allocation in the stock market, which has been widely used in recent years for long-term return forecasts in the US stock market. Currently the AIAE indicator is at its highest level since 1951, indicating a high probability of a decline in future US stock returns; (3) according to the three-factor model of enterprise profit, valuation, and dividend distribution, the US stock return rate over the next 10 years may be around 6.1%: the estimated composite return rates for enterprise profit, valuation, and dividend distribution from 2025 to 2034 are 6.9%, -2.7%, and 2.0% respectively, resulting in an annualized US stock return rate of 6.1%, close to the median estimate of overseas institutions. It should be noted that in the long term, the logic of investing in US stocks has not undergone a substantial change yet, but in the context of relatively high valuation and risk appetite, it is necessary to lower expectations for future returns in US stocks. The compound growth rate of US stock EPS from 2013 to 2023 was 6.9%, in developed economies.Leading in the field, also its main source of long-term returns. Looking ahead, according to the current market expectations, the profit growth rate of US stocks in 2025-2027 may still lead in developed markets. On one hand, this is due to the market's confidence in the new round of industrial revolution represented by AI. The rapid advancement of AI brings new growth points to the profits of leading US tech stocks. On the other hand, the market still has a high level of confidence in the resilience of the US economy. However, in the context of relatively high valuations and risk preferences, reducing the expected return on US stocks may be more reasonable, and the disturbance to the long-term profitability of US stocks by Trump's new policies still needs to be continuously monitored.In the short term, the stabilization of the US stock market relies on a clear shift in tariff policies, which would in turn drive valuation recovery, but it still needs to wait in the short term. As mentioned in our previous report "Preview of Trump's April Tariffs: Impact and Influence", based on the experience of the US-China trade war in 2018-2019, the US stock market performed poorly in 2018 as a whole, experiencing two significant rounds of valuation killings. By the end of 2018, after a temporary "truce" in the US-China trade war and a cooling of conflicts on the margins, the US stock market's valuation killing can be considered to be over, and in 2019, despite a significant weakening of profits, the marginal impact of the trade war receded and expectations of interest rate cuts increased, leading to a substantial valuation recovery in the US stock market in 2019. From the current situation, the uncertainty of tariff policies is still strong, there are no clear signs of weakening yet, there is greater pressure for profit downgrades, and the Fed Put and Trump Put are still in a restrained state without being invoked, so the US stock market still faces certain pressures in the short term, and market uncertainty remains high. 3. Risk warning Historical experience does not represent the future; there may be omissions in model calculations; major changes have occurred in the US economy and industrial structure. This article is reprinted from the WeChat public account "Pursuing the Road of Value", GMTEight Editor: Chen Xiaoyi