It’s mid October and the Dow Jones Index is at about 13,300, down 5% over the past five years despite annualized gains of almost 25% over the last three years – another lost half-decade for investors. Although financial advisors will likely only focus on the phenomenal gains over the past three years, it always behooves investors to do their own research and look at investment patterns over the long run. And in the midst of this all, Wharton Finance Professor Jeremy Siegel is predicting 17,000 for the Dow in a few years… he’s really bullish and you’ve got to laud his courage for publicly making such a bold call. Professor Siegel is well known as an author, frequent guest on popular television programs such as CNBC, for his book stocks for the long run and for his research-based approach to understanding financial markets.
Although U.S. markets have rallied significantly since the meltdown in 2009, it appears that the world at large is economically sliding into an abyss – with troubles over Iran’s nuclear program, the Arab Spring and tension between Syria and Turkey, significant turmoil in Europe, a dire IMF report, slowing economic growth in emerging markets, etc. And though the US economy appears to be holding up fairly well according to the government (with reports on decreasing unemployment which we should take with a rock of salt because these numbers are no more than massaged statistics), ground reality paints a fairly dreary economic picture with jobs hard to find, households struggling to pay their bills, college graduates taking on low-paying part-time jobs just to pay their bills and put food on the table, high levels of budget deficits and debt at state and Federal levels, a huge inventory of foreclosed homes and so on.
Many believe that with many shares at all time highs, Siegel’s prediction seems rather far-fetched. Technical analysts point to the market’s sharp rise over the past three years and advise caution. Short term, they expect the markets to move up if Romney wins the presidential election on November 6 because of his pro-business, lower tax philosophy, and down by 10% or more if Obama wins because he plans to increase taxes and will likely do less to rein in the deficit. Thereafter, analysts expect the market to stay flat in the best case but more likely to give up its gains gradually, and in the worst case to fall rather dramatically. [Also See: Obama vs. Romney-Where Should You Invest]
Yet, Professor Siegel believes there’s a 50% probability of the Dow reaching 17,000 within about two years. And this respected market watcher is fairly comfortable talking about his prediction and backing it up with data and his own arguments – that fundamentals such as stronger earnings and P/E ratios alone could take the Dow up to the 15,000 level in what he calls a “really rather modest” scenario that only needs 8% annual returns over the next two years – which would take the Dow above 14,000 in the first year from now and to about 15,000 with a successive 8% increase. As Siegel sees it, P/E ratios (on average) are currently at about 12.5 which is below their historical average of 15. He also points out that historically, the Dow has risen 6.5% over the long run, so an 8% rise given is pretty doable, in his view.
Siegel is actually even more bullish because he sees a 50% probability that the Dow could shoot to 15,000 by yearend 2012 or early 2013 based on strong momentum that he sees in our domestic economy. And he sees a 70% chance of the Dow reaching 15,000 by yearend 2013. That’s pretty bullish for stocks and would suggest that even though they’ve been up 25% annually over the past three years, investors can still jump in and expect solid returns.
To Siegel, the crises in Greece, the Euro zone and the rest of the world are only a short term drag on the markets and he is convinced that the European central bank will bailout countries at risk and keep the Euro from collapsing. When quizzed about the dampening effect of rising interest rates from their current bottom-barrel levels, he retorts that a stronger, healthier economy could easily sustain a modest increase in rates over the near term. Moreover, he does not see central banks raising interest rates too sharply over the next few years because they are aware that such moves would be disastrous and could drive us deep into recession.
Siegel believes that perhaps after the elections, investors might see a calmer market and get the confidence to come back in and carry the Dow higher to his target of 17,000. Moreover with interest rates so low, Siegel believes that stocks are the only viable investment option for sizable capital appreciation and will draw investor capital.
However, ground reality – global economic turmoil, instability in the Middle East, rising oil prices, rising citizens’ discontent and potential instability or wars – could easily up-end Siegel’s predictions. Only time will tell.