The Golden Rule

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There are only two times in history that the market has been more expensive than today; March of 2000, and in 1929. Students of financial history would recognise these ominous dates, as they preceded two of the largest crashes in the last 100 years. Disconnects like this require a major shift in thinking by market participants, which Warryn Robertson from Lazard Global Equity Franchise believes he’s observed. 

“The Golden Rule very simply states that nominal GDP growth, which is the key driver of earnings, should be linked to nominal risk-free rates, which is the key driver of multiples.” 

Robertson believes that investors have factored in a return-to-normal for growth rates, while failing to make the same changes to risk factors. In the video and transcript below, he expands on what this means for equity valuations. 


One of the tools that we use to look at the general expensiveness of markets is the CAPE Shiller PE Ratio. Now, only on two occasions in history have they been higher than what you have today. 

One of those occasions was the tech bubble just before it burst in March of 2000 and the other was in mid-1929. So, these are ominous dates in financial market history and that's where we're at today in terms of where general earnings levels and market multiples are. 

The other thing you take into account is corporate profitability, which is at one of the highest levels we've ever seen. And corporate margins are the highest on record, so everything seems to be primed for the world living in nirvana going forward. 

And we think there's been two reasons for this. One is the sustained period of lower than normal interest rates - Quantitative Easing – that’s produced a break down in the core nexus of valuations. 

There's a thing that we use called the Golden Rule, which is a really important component of the way you value a business. It links earnings levels with multiples and cash flows with discount rates. The Golden Rule very simply states that nominal GDP growth, which is the key driver of earnings, should be linked to nominal risk free rates. Which is the key driver of multiples or discount rates. 

Now, what's happened in investment markets is people have had low discount rates that they've applied high multiples and low costs of capital to, but have assumed return to trend growth levels. 

So, you've broken that nexus. In fact, you've broken that rule and that's why you think it's okay that U.S utilities are trading on 20 times earnings. It's okay that consumer staples businesses are trading on 17-20 times EBIT. Well above the historical levels because you've put garbage in, garbage out in the valuation models. 

So, we find it difficult today to find investment opportunities. But we can still find 25 of what we regard as the best businesses in the world that are trading at attractive valuations. 

Want to hear more?

You can read further insights and analysis from Warryn and the team at Lazard here

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