Markets and Fundamentals: The Evidence  103
why a modestly growing company, like the high-ROIC consumer packaged 
goods company Clorox, ends up on the growth-stock list.
Decades of Consistent Returns
Similarly, market bubbles and crises have always captured public attention, fu-
eling the belief that the stock market moves in chaotic ways, detached from 
economic fundamentals. The 2008 financial crisis, the technology bubble of the 
1990s, the Black Monday crash of October 1987, the leveraged-buyout (LBO) 
craze of the 1980s, and, of course, the Wall Street crash of 1929 appear to confirm 
such ideas. But the facts tell a different story. Despite these occurrences, U.S. 
equities over the past 200 years have delivered decade after decade of consistent 
returns to shareholders of about 6.75 percent annually, adjusted for inflation. 
Over the long term, the stock market has been far from chaotic (Exhibit 7.3).
The origins of this 6.75 percent total shareholder return (TSR) lie in the 
fundamental performance of companies and the long-term cost of equity. TSR 
is simply the sum of the relative share price appreciation plus the cash yield 
(see Exhibit 7.4). Over the past 70 years, corporate profits in the United States 
have grown about 3 to 3.5 percent per year in real terms, and the median P/E 
has hovered around a level of about 15 to 17.7 If P/Es revert to a normal level 
over time, share price appreciation should therefore amount to around 3 to 
3.5 percent per year. Moreover, corporate America typically reinvests about 
EXHIBIT 7.3  Stock Performance against Bonds in the Long Run, 1801–2018
$
0
10
1
100
1,000
10,000
100,000
1,000,000
10,000,000
100,000,000
Stocks
Stocks
(inflation-adjusted)
Bonds
Bills
CPI
1801
1816
1831
1846
1861
1876
1891
1906
1921
1936
1951
1966
1981
1996
2011
2018
Source: J. J. Siegel, Stocks for the Long Run: The Definitive Guide to Financial Market Returns and Long-Term Investment Strategies (New York: McGraw-Hill, 2014); 
R. G. Ibbotson, 2019 SBBI Yearbook (Duff & Phelps).
7 Note that the P/E is stable if long-term growth rates, returns on capital, and costs of equity are stable.

104 The STock MarkeT IS SMarTer Than You ThInk
40 to 50 percent of profi ts every year to achieve this profi t growth, leaving the 
remainder to be paid to shareholders as dividends and share repurchases. The 
resulting 50 to 60 percent payout ratio is not a coincidence: it follows from a 
typical 12 to 14 percent return on equity for U.S. companies, combined with 
3 to 3.5 percent growth in real terms, or 5 to 6 percent including infl ation. It 
translates to a cash yield to shareholders (that is, the inverse of the P/E times 
the payout ratio) of around 3.5 percent at the long-term average P/E of 15 to 
17. Adding the cash yield to the annual 3 to 3.5 percent share price apprecia-
tion results in total real shareholder returns of about 6.5 to 7 percent per year. 
 p/e Fundamentals 
 Some analysts miss an important element of stock returns: the gains are driven 
by both share price appreciation and cash yields. In the view of these analysts 
share prices cannot increase faster than corporate profi ts. But this perspective 
erroneously misses the cash distributions entirely. Other experts have been too 
pessimistic about the share price appreciation component when they’ve predicted 
convergence of the P/E toward long-term average levels. Their estimates for the 
long-term average level are too low because they incorporate the 1970s and 1980s, 
when P/Es were severely depressed because of exceptionally high infl ation levels. 8
 EXHIBIT  7.4 Economic Fundamentals Explain Long-Term Total Shareholder Returns
Range of annual performance over past 70 years
Total shareholder
return1
6.5%–7.0% 
Share price
appreciation
3.0%–3.5% 
Cash yield
3.25%–3.75% 
Payout ratio2
50%–60% 
P/E
15X–17X 
Change in P/E
0.0%–0.0% 
Profit growth1
3.0%–3.5% 
Return on capital3
12%–14% 
1 Measured in real terms.
2 Estimated as (1 – growth/return on capital), where growth is real-terms profit growth plus inflation at 2.0%–2.5%.
3 Long-term average ROIC—recent years have been above average levels.
8 In addition, Robert Shiller’s measure of the current P/E is overestimated because it does not exclude ex-
traordinary losses such as goodwill impairments. See J. Siegel, “Don’t Put Faith in Cape Crusaders,” Financial 
Times , August 20, 2013; “Siegel vs. Shiller: Is the Stock Market Overvalued?,” Knowledge@Wharton, Septem-
ber 18, 2018, knowledge.wharton.upenn.edu/article/siegel-shiller-stock-market/ .