Puzzle for you: Stocks returns vs. Economic Growth

Discuss all general (i.e. non-personal) investing questions and issues, investing news, and theory.
Post Reply
Topic Author
Dirghatamas
Posts: 581
Joined: Fri Jan 01, 2016 5:18 pm

Puzzle for you: Stocks returns vs. Economic Growth

Post by Dirghatamas »

Code: Select all

Country	Returns	2017 USD value of $1000 invested in 1994
CountryA	9.56%	$8,165
CountryB	7.5%	$5,277
CountryC	1.25%	$1,330	
Here is a puzzle to make you think (narrative on why this thread below). There are 3 countries, A,B,C listed above in the table. They are China, USA and India (which is which is secret). The data above measures total stock returns (dividends reinvested), in nominal USD, in market cap stock index in each country from may 1994 till now (1994 because publically available free data from MSCI only goes that far for India and China). As one can see, the returns are wildly different and your retirement dollars (last column) are off by ~order of magnitude :shock:

Puzzle: Which country (China, USA, India) translates to A,B,C? Honor system. You can't use search.

Why: I get headaches from the weekly threads on this forum on US vs. International investing :oops: These type of threads invariably end up with poor information content and jingoism. A rational investor is interested in underlying reasons for returns and correlations: are returns related to GDP growth; GDP per capita; Population and population growth; demographics; innovation; share buybacks or share dilution; evidence of competition vs. monopolies/moats; Governance/Corruption; rule of law leading to high PE; tax policies by Governments; size and sector of companies...Can we use them to predict returns?

Narrative: I picked these 3 countries because they are so different and provide an interesting example of why investing/ predictions are difficult and why set viewpoints like home bias maybe wrong (or right).

China in the last 25 years has the biggest economic growth and is the fastest emerging country. It also had staggering increase in both GDP and GDP per capita. Its market cap of public companies has skyrocketed. Foreign capital has rushed in making share dilution less likely (or maybe not). It has problems with governance, potential corruption and insider trading laws.

USA in the last 25 years, already started as the world's largest GDP. Its GDP growth has been very good for a developed country but not comparable to emerging economies. Population growth is modest. Rule of law and Governance are good but not the world's best (based on country corruption scores). It has had easy access to capital but high corporate taxes.

India in the last 25 years, started close to China in GDP per capita but has grown far slower being a democracy. Its GDP has grown reasonably fast but a large piece is due to very fast population growth. Like China, there are concerns about governance and corruption. Access/use of foreign capital has been much slower than China.

My prediction: Most people will guess A,B,C wrong! :twisted: I will be back after enough replies. Hopefully it will make people think about what drives investor stock returns and the complexity of making long term predictions. Again, no cheating, no searching!
Dominic
Posts: 470
Joined: Sat Jul 02, 2016 11:36 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Dominic »

My educated guess:

A = US
B = China
C = India

This is based off of my memory of recent return tables. The US was one of the best markets to invest in over the past few decades. India's returns have been flat. China has done okay.

GDP growth is definitely uncorrelated with investment returns. That much I know.
Topic Author
Dirghatamas
Posts: 581
Joined: Fri Jan 01, 2016 5:18 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Dirghatamas »

Hah! Keep them coming. My prediction over/under still stands :twisted: I will be surprised if > 10% guess right. Investing really is hard.
AlohaJoe
Posts: 6609
Joined: Mon Nov 26, 2007 1:00 pm
Location: Saigon, Vietnam

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by AlohaJoe »

India, US, China
Chuffly
Posts: 61
Joined: Sat Oct 08, 2016 11:27 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Chuffly »

A - US
B - India
C - China

Did I win? Feel pretty good about A and C from memory, process of elimination from there.
User avatar
nedsaid
Posts: 19249
Joined: Fri Nov 23, 2012 11:33 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by nedsaid »

Larry Swedroe says that stock returns are not correlated to economic growth. I read similar comments in a book by Jeremy Siegel. A bigger factor is good old fashioned valuation. A fast growing country can have its stocks bid up in price by investors trying to capture higher returns. A slower growing country with low valuations might actually produce higher returns. It is a question of expectations, low expectations are easier for earnings to beat than high expectations.
A fool and his money are good for business.
Ragnoth
Posts: 274
Joined: Sat Sep 17, 2016 8:10 am
Location: New York

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Ragnoth »

A-China
B-US
C-India

I love a good guess.
User avatar
triceratop
Posts: 5838
Joined: Tue Aug 04, 2015 8:20 pm
Location: la la land

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by triceratop »

Observations: based on priors of your point of view on international investing we infer that A cannot be USA or this thread would not prove what we expect you to want to impart. Also, if US Stocks returned 1.25% nominal USD over 25 years, it would be a significant story which I would have seemed to miss. Therefore we reasonable conclude B is USA.

It then is a 50/50 guess which of A, C are China, India. Since anyone can make the inferences I made regardless of personal investing beliefs, I think you should reconsider your 10% correctness estimate :wink:
"To play the stock market is to play musical chairs under the chord progression of a bid-ask spread."
lack_ey
Posts: 6701
Joined: Wed Nov 19, 2014 10:55 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by lack_ey »

A - USA
B - India
C - China

I recall real returns from about the mid-1990s to today in the US were better than 1/CAPE in real terms. I bet inflation was about 2.5% and I think CAPE was in the low 20s. Hence returns better than 7.x percent. I think 7.5% is too low; if it were 7.5% I'd have remembered 1/CAPE as being about right. So I think Country A is the USA.

I also seem to remember Chinese stock market returns since effectively the open in the modern era being notably bad. I think that's from the '90s-to-'00s period, probably from financials and other stuff getting wiped out in the late '90s I'm guessing from the Asian financial crisis. I also seem to recall China being an example of people shaking their fists about massive share dilution and the huge gap between stock market returns and economic growth. IIRC both China and India did pretty well for stock market returns the last 15 years, though. Anyway, I would guess higher returns from India than China.

Though when it comes to China, it really matters which market you're looking at (local A Shares market or everything or what's listed in Hong Kong).


This may be borderline misleading because IRR if regularly contributing throughout would tell a different story. Also, watch me be totally wrong and have to eat crow.
User avatar
JoMoney
Posts: 16260
Joined: Tue Jul 23, 2013 5:31 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by JoMoney »

Dirghatamas wrote:...Can we use them to predict returns?...
The answer is largely No, as with most other methods people use for trying to predict the large uncertainties of future growth.
But there are antecedent factors you can make rational decisions on relative to whatever future growth occurs, like expenses and exposure to identifiable risks.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
VAslim16
Posts: 176
Joined: Sat May 24, 2008 6:47 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by VAslim16 »

A = China
B = India
C = USA
User avatar
siamond
Posts: 6003
Joined: Mon May 28, 2012 5:50 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by siamond »

Trying to put aside thoughts on what you are trying to make us say... Just making a honest guess... I would say:
A=China
B=USA
C=India

And I'm pretty sure I got it wrong! :D

As a side note, as nisiprius would point out, the start/end dates always change everything. So we really can't read much on the actual answer to your little riddle.
User avatar
gilgamesh
Posts: 1607
Joined: Sun Jan 10, 2016 8:29 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by gilgamesh »

AlohaJoe wrote:India, US, China
^ This
RandomFly
Posts: 46
Joined: Sat May 30, 2015 8:57 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by RandomFly »

India
US
China

I am not sure about relative order of 1 and 2, but pretty sure about 3.
carolinaman
Posts: 5453
Joined: Wed Dec 28, 2011 8:56 am
Location: North Carolina

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by carolinaman »

USA
China
India

The only thing I am sure is that USA is not C
User avatar
JoMoney
Posts: 16260
Joined: Tue Jul 23, 2013 5:31 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by JoMoney »

carolinaman wrote:...The only thing I am sure is that USA is not C
:beer
I refrained from 'guessing' because I roughly know the returns from US stocks since 1994, and familiar enough with China returns to distinguish those as well. I'm quite surprised at the guesses, I would have thought everyone on here would be able to spot the U.S. returns.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
lazyday
Posts: 3849
Joined: Wed Mar 14, 2007 10:27 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by lazyday »

Dirghatamas wrote:Why: I get headaches from the weekly threads on this forum on US vs. International investing :oops: These type of threads invariably end up with poor information content and jingoism. A rational investor is interested in underlying reasons for returns and correlations: are returns related to GDP growth; GDP per capita; Population and population growth; demographics; innovation; share buybacks or share dilution; evidence of competition vs. monopolies/moats; Governance/Corruption; rule of law leading to high PE; tax policies by Governments; size and sector of companies...Can we use them to predict returns?
I doubt any of those can be used to make a strong prediction. Maybe a very weak guess. And a few might go in the opposite direction from intuition, such as GDP.

Even if you gave us the 1994 PE10 for each country, we couldn't use it to reliably tell which is A B and C. It might improve our odds. Or, in this specific case, it might mislead us.

With data like PE10 and the measures you list, we might make a guess about which country will provide good future returns. If the country we favor then underperforms, it doesn't mean we made a bad choice. Similarly, listing A B and C incorrectly doesn't mean our strategy is wrong. As Larry says, "don't confuse strategy with outcome."

Anyway, assuming your returns are nominal, I'll guess that A is US, since the S&P has done really well since 1994. For the other two, I really don't know but will guess B China, C India. If your returns are real, then I'll guess China, US, India, since the top one seems too high for US.
Last edited by lazyday on Sun May 21, 2017 6:35 am, edited 1 time in total.
Valuethinker
Posts: 48954
Joined: Fri May 11, 2007 11:07 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Valuethinker »

Dirghatamas wrote:
India in the last 25 years, started close to China in GDP per capita but has grown far slower being a democracy. Its GDP has grown reasonably fast but a large piece is due to very fast population growth. Like China, there are concerns about governance and corruption. Access/use of foreign capital has been much slower than China.!
EDIT: I am taking from your nickname that you may be from India, or of Indian heritage. That said, I have often heard arguments made (by Indians) like you have made, and I think they lack a sense of perspective-- yes, Indian democracy is chaotic and at times quite inefficient. But dictatorships are quite dysfunctional themselves (consider Egypt, or the 'stans)-- corruption and governance are not only issues for India! I think Indians themselves feel a sense of concern/ competitive instinct in comparison with China, and that blinds them to where India started from, and what the challenges India has faced are. Certainly Indian experiments with dictatorship (Indira Gandhi's years) and in particular with lower birth rates (forced sterilization etc.) were not happy, and hurt India's economic and social development, and yet those (along with state owned heavy industries) are the most direct comparisons one could make with China. The reality was that China was a much more monolithic state, and a more advanced one (eg 90%+ literacy rates, etc.), in the early 1980s than India was in the early 1990s. So China could morph to "economic takeoff" more quickly, and grow faster. But see below.

Original Post:

I don't think "democracy" is the only reason India has grown less quickly than China! It may not even be the primary reason. It's not at all clear if India was a dictatorship that it would have grown as fast (most dictatorships don't grow fast due to corruption and governance issues).

India's economic performance the last 25 years has been nothing short of astonishing, if we didn't have China. India has grown nearly as fast (for an economy of that size) as any Emerging Economy in history for that long a period*. Exception might be Japan and South Korea in the miracle years (1953-1973 and 1960-1973 but I'd have to check) and those were not 25 year periods. And population growth rate in India is actually not that fast-- I'd have to check the 1990s number, but the 2000s number is not so wild. GDP per capita has been rising.

To look at India and see failure is simply setting the bar very high. China is essentially unique in world history, and much of its recent GDP growth may not have been GDP growth at all-- see SE Asia up to the Asia Crash or Japan in the 1980s. That overinvestment in capital assets, and systematic misstatement of GDP numbers (very clear that goes on, I believe).

What people don't remember is that India looked like a basket case when Singh became Finance Minister in the early 1990s. In fact, people talk about Bangladesh and Pakistan now the way they talked about India in the 1970s and early 80s (it was an Indian gentleman from the Gulf who was so lecturing me, he was a young man, so I let him off ;-)). I agree there are particular political issues with those former 2 countries, but still.

On foreign capital I am not sure that is right? China and India have both been pretty self sufficient in capital. What you mean is imports of foreign expertise-- foreigners building factories, retail chains etc. and showing the Chinese "how to do it"?

* problem. There literally aren't any other countries of India & China size. But that does not make them directly comparable.
Topic Author
Dirghatamas
Posts: 581
Joined: Fri Jan 01, 2016 5:18 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Dirghatamas »

OK, I am back with results.

First, 750 views but only 12 people were brave enough to play. Rest are chicken!

There were 12 unique posters with answers. Other posters replied to the thread but didn't venture a guess. Out of these, 2 were correct answers and 10 were wrong :twisted:

Country A was USA, B was India, C was China.

Chuffly and lack_ey were the only ones with the correct answer. They both win virtual beers :beer

I was especially impressed with lack_ey's reply because not only did he get it right, his explanation (quoted below) was spot on and shows an impressive memory (given that the Asian financial crisis and share dilution endemic issues were both ~ 20 years ago).
You sir get :sharebeer
lack_ey wrote: I recall real returns from about the mid-1990s to today in the US were better than 1/CAPE in real terms. I bet inflation was about 2.5% and I think CAPE was in the low 20s. Hence returns better than 7.x percent. I think 7.5% is too low; if it were 7.5% I'd have remembered 1/CAPE as being about right. So I think Country A is the USA.

I also seem to remember Chinese stock market returns since effectively the open in the modern era being notably bad. I think that's from the '90s-to-'00s period, probably from financials and other stuff getting wiped out in the late '90s I'm guessing from the Asian financial crisis. I also seem to recall China being an example of people shaking their fists about massive share dilution and the huge gap between stock market returns and economic growth. IIRC both China and India did pretty well for stock market returns the last 15 years, though. Anyway, I would guess higher returns from India than China.
Last edited by Dirghatamas on Sun May 21, 2017 9:55 pm, edited 1 time in total.
Topic Author
Dirghatamas
Posts: 581
Joined: Fri Jan 01, 2016 5:18 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Dirghatamas »

triceratop wrote:Observations: based on priors of your point of view on international investing we infer that A cannot be USA or this thread would not prove what we expect you to want to impart. Also, if US Stocks returned 1.25% nominal USD over 25 years, it would be a significant story which I would have seemed to miss. Therefore we reasonable conclude B is USA.

It then is a 50/50 guess which of A, C are China, India. Since anyone can make the inferences I made regardless of personal investing beliefs, I think you should reconsider your 10% correctness estimate :wink:
And you would be wrong :twisted: This was a riddle. I already have posted enough serious posts.This is standard bluffing technique. I knew that people would guess (like you) based on my posts and if they did (without remembering the actual past), they would all guess wrong. That's why I predicted > 90% people would guess wrong. Unfortunately, both Chuffly and lack_ey actually seem to remember 20 year old history so I didn't win.

I got close though. Only 2 out of 12 guessed right.
User avatar
nedsaid
Posts: 19249
Joined: Fri Nov 23, 2012 11:33 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by nedsaid »

Dirghatamas wrote:OK, I am back with results.

First, 750 views but only 12 people were brave enough to play. Rest are chicken!

There were 12 unique posters with answers. Other posters replied to the thread but didn't venture a guess. Out of these, 2 were correct answers and 9 were wrong :twisted:

Country A was USA, B was India, C was China.

Chuffly and lack_ey were the only ones with the correct answer. They both win virtual beers :beer

I was especially impressed with lack_ey's reply because not only did he get it right, his explanation (quoted below) was spot on and shows an impressive memory (given that the Asian financial crisis and share dilution endemic issues were both ~ 20 years ago).
You sir get :sharebeer
lack_ey wrote: I recall real returns from about the mid-1990s to today in the US were better than 1/CAPE in real terms. I bet inflation was about 2.5% and I think CAPE was in the low 20s. Hence returns better than 7.x percent. I think 7.5% is too low; if it were 7.5% I'd have remembered 1/CAPE as being about right. So I think Country A is the USA.

I also seem to remember Chinese stock market returns since effectively the open in the modern era being notably bad. I think that's from the '90s-to-'00s period, probably from financials and other stuff getting wiped out in the late '90s I'm guessing from the Asian financial crisis. I also seem to recall China being an example of people shaking their fists about massive share dilution and the huge gap between stock market returns and economic growth. IIRC both China and India did pretty well for stock market returns the last 15 years, though. Anyway, I would guess higher returns from India than China.
I wanted to comment but not enter your contest because I am wrong about almost everything I say here. My ego can take only so much battering. It seems I am right about anything around here about every six months or so.

The results are not surprising as countries with higher growth rates tend to have their stocks bid up. In one of Jeremy Siegel's books, he commented on this. He compared the stocks of Brazil with the stocks of China from 1992 into 2003. China had GDP growth of 86% during that time while Brazil's economy actually contracted by 6%. Yet $1,000 invested in Brazil grew to $4,781 and a $1,000 invested in Chinese stocks actually shrank to $320. Expectations for Brazil were probably about non-existent where expectations for China were sky high.

In your contest, expectations based on economic growth were too high for China, India had lower expectations for growth than for China but still too high compared to the United States. The old expectations vs reality thing.
A fool and his money are good for business.
User avatar
Nate79
Posts: 9354
Joined: Thu Aug 11, 2016 6:24 pm
Location: Delaware

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Nate79 »

How much did currency effect play into the order?
garlandwhizzer
Posts: 3562
Joined: Fri Aug 06, 2010 3:42 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by garlandwhizzer »

Very interesting. I guess the question is can we use these results from the last 24 years as a basis for projecting the future for the next 24 years in terms of market returns for USA, China,and India. Many analysts now believe that, based on valuations, demographics, increasing middle class population growth, and GDP growth, EM are likely to outperform the USA going forward. Could it be that history will repeat itself and relative valuations turn out to be worthless for predicting future returns in these divergent markets? Are EM destined to remain EM with persistent greater political risk, more corruption, more share dilution, less rule of law, etc., and never transition into DM? I don't know and would be interested to hear other's thoughts. Personally, I believe that in general valuations are a factor to consider in predicting future returns and therefore I'm not abandoning EM because of poor performance in the past.

Garland Whizzer
User avatar
nedsaid
Posts: 19249
Joined: Fri Nov 23, 2012 11:33 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by nedsaid »

My view is that Emerging Markets should do well in the future if expectations are reasonable. Right now, Emerging Markets are cheaper than Developed Markets which in turn are cheaper than the United States. Doesn't look like Emerging Markets have been bid up or that expectations are unreasonable. Looks like a pretty good buy to me.
A fool and his money are good for business.
Topic Author
Dirghatamas
Posts: 581
Joined: Fri Jan 01, 2016 5:18 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Dirghatamas »

Nate79 wrote:How much did currency effect play into the order?
I created the data from my perspective (US investor which also covers the majority of folks on this forum). So, the returns are in nominal USD. For US stock market, this is a reasonable way to do the math (you could also calculate real not nominal).

For India, I used the MSCI India total return index in nominal US dollars as for example below. https://www.msci.com/documents/10199/72 ... 5958476403

One can also compare it to the MSCI India total return index in Indian Rupees below. https://www.msci.com/documents/10199/1a ... a035ac782d

As you can see from the two sources, the return since 1994 in USD were 7.5% while they were 11.2% in Rupees. The (rather large) difference is explained by inflation and devaluation of the Rupee vs. the Dollar in those ~20 years. Basically, in a fast growing/emerging economy like India, we should expect much higher inflation than a mature economy like US and that is what happened. It is fairly similar to other cases like say Mexican Peso or Indonesia or many other emerging countries.

The case of China is more interesting because the local currency (Yuan) denominated local A shares were unavailable to be invested by foreigners (us) till very recently. So, the only reasonable placeholder that a westerner could actually invest in through mutual funds were the H shares denominated in Hong Kong. Given that the Hong Kong dollar is pegged to the USA dollar, I didn't look any further and simply used the MSCI China index return data in USD from here.
https://www.msci.com/documents/10199/aa ... 522caa9021

I am an engineer not a finance professional, so I only have access to free/public data and not interested in better data that maybe available for hefty fees from index providers on investing topics. In particular I would have liked to do an IRR type calculation with constant (real) investment made every month rather than just a lump sum in 1994. That would be more realistic of the way we actually invest. I couldn't find that data going back far enough (only from 2002) in free sources.
Topic Author
Dirghatamas
Posts: 581
Joined: Fri Jan 01, 2016 5:18 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Dirghatamas »

nedsaid wrote: In your contest, expectations based on economic growth were too high for China, India had lower expectations for growth than for China but still too high compared to the United States. The old expectations vs reality thing.
That's a very good narrative (I would have guessed the same) except that's not what happened. If one looks at valuations as perhaps by P/E or P/Book or CAPE or any technique you could devise based on actual data, then its doesn't explain what actually happened (especially for China)

The insidious problem (IMO) of investing/ overweighting in emerging markets is share dilution. US valuations were actually fairly high in the mid nineties already and are still very high (as measured by P/E). India interestingly also historically always seems to have high P/E. China H shares have a historical mean P/E of only 9 :shock: They are still very cheap by this measure at ~13 today. So taking a ~20 P/E for India and USA during this timeframe, China shares have always been an absolute steal.

The problem that can't be captured by low sounding valuation (low P/E) is share dilution. Let's say we start with a P/E of 10 and the company/country grows by 10% every year. That sounds like a fantastic investment. But, if the company issues 10% extra shares (share dilution) each year either to pay for capital or just to pay insiders/state/corruption, then the existing minority shareholders didn't really benefit from this growth at all. The company is now 10% higher market cap, has 10% more shares, still has a low P/E..the early shareholder basically got 0 returns.

There is a reason I don't tilt to any factor: value/size/emerging markets/country selection/sector selection..whatever. The more you know, the less you know :happy
User avatar
JoMoney
Posts: 16260
Joined: Tue Jul 23, 2013 5:31 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by JoMoney »

Dirghatamas wrote:... In particular I would have liked to do an IRR type calculation with constant (real) investment made every month rather than just a lump sum in 1994. That would be more realistic of the way we actually invest. I couldn't find that data going back far enough (only from 2002) in free sources.
MSCI USA GR USD
MSCI India GR USD
MSCI China GR USD
(Bear in mind these are the MSCI 'Gross Return' indices that don't account for foreign tax withholding had there been a fund available to actual invest in. The MSCI 'Net Return' indices don't go back that far)
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
Topic Author
Dirghatamas
Posts: 581
Joined: Fri Jan 01, 2016 5:18 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Dirghatamas »

Wow thank you JoMoney

The document I could find by searching on the MSCI site itself was the Gross returns one I included that only goes back to 2002 in terms of detailed data. Thank you for the Morningstar link which goes back much further. One of these rainy/ lazy weekends I will dig in and do the better/correct IRR type calculation.
User avatar
JoMoney
Posts: 16260
Joined: Tue Jul 23, 2013 5:31 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by JoMoney »

Dirghatamas wrote:...
The insidious problem (IMO) of investing/ overweighting in emerging markets is share dilution. US valuations were actually fairly high in the mid nineties already and are still very high (as measured by P/E). India interestingly also historically always seems to have high P/E. China H shares have a historical mean P/E of only 9 :shock: They are still very cheap by this measure at ~13 today. So taking a ~20 P/E for India and USA during this timeframe, China shares have always been an absolute steal.

The problem that can't be captured by low sounding valuation (low P/E) is share dilution. Let's say we start with a P/E of 10 and the company/country grows by 10% every year. That sounds like a fantastic investment. But, if the company issues 10% extra shares (share dilution) each year either to pay for capital or just to pay insiders/state/corruption, then the existing minority shareholders didn't really benefit from this growth at all. The company is now 10% higher market cap, has 10% more shares, still has a low P/E..the early shareholder basically got 0 returns...
Also consider not just share dilution at the company level, but consider the diffusion of the countries growth into a bigger market of low margin businesses.
Economist: Chinese business - Where are the profits?
There are many fundamental differences in Chinese stocks, such as the fact that despite floating a relatively small number of shares on the market, most businesses are still largely owned by the state and effectively run by the government in a command economy. The interests of the state may not be the same as the motivations of what a private or shareholder owner would have.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
Chuffly
Posts: 61
Joined: Sat Oct 08, 2016 11:27 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Chuffly »

Dirghatamas wrote:
nedsaid wrote: In your contest, expectations based on economic growth were too high for China, India had lower expectations for growth than for China but still too high compared to the United States. The old expectations vs reality thing.
That's a very good narrative (I would have guessed the same) except that's not what happened. If one looks at valuations as perhaps by P/E or P/Book or CAPE or any technique you could devise based on actual data, then its doesn't explain what actually happened (especially for China)

The insidious problem (IMO) of investing/ overweighting in emerging markets is share dilution. US valuations were actually fairly high in the mid nineties already and are still very high (as measured by P/E). India interestingly also historically always seems to have high P/E. China H shares have a historical mean P/E of only 9 :shock: They are still very cheap by this measure at ~13 today. So taking a ~20 P/E for India and USA during this timeframe, China shares have always been an absolute steal.

The problem that can't be captured by low sounding valuation (low P/E) is share dilution. Let's say we start with a P/E of 10 and the company/country grows by 10% every year. That sounds like a fantastic investment. But, if the company issues 10% extra shares (share dilution) each year either to pay for capital or just to pay insiders/state/corruption, then the existing minority shareholders didn't really benefit from this growth at all. The company is now 10% higher market cap, has 10% more shares, still has a low P/E..the early shareholder basically got 0 returns.

There is a reason I don't tilt to any factor: value/size/emerging markets/country selection/sector selection..whatever. The more you know, the less you know :happy
Curious on the source for the mean P/E figure for China.

I don't have a ton of data at my disposal, but the one resource I have for historical valuation numbers is Joachim's Klement's "Does the Shiller-PE work in Emerging Markets?" ... not apples-to-apples (uses CAPE vs. what I am presuming is TTM P/E on your end) and this paper would only cover 2005 to April 2012 or so (since CAPE would need a decade of earnings data before it can begin, China's CAPE data couldn't start until 2005). But during that ~7.25 year time frame, eyeball test of the graph doesn't ever really show China's CAPE dipping below 15. It seems to be spend most of that time frame in the overvalued territory (>20), culminating in the BRIC's bubble of late 2007 when it's CAPE reached nosebleed valuations of > 63. I think that 2007 bubble is in large part responsible for the underwhelming returns of the last decade.

Oh, and almost forgot - thanks for the virtual beer :sharebeer
NibbanaBanana
Posts: 247
Joined: Sun Jan 22, 2017 9:34 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by NibbanaBanana »

Interesting thread. I remember the Asian financial crisis. It rocked the US market a bit too as I remember. I would not have guessed correctly and would have put China in the #2 spot. From what little I know, India doesn't respect international intellectual property: ie copyrights and patents. I have read too books an contemporary India. One by an Indian and one by a westerner. Neither left a favorable impression. That's one place I don't want to visit. Sounded just about like hell on earth actually. (And BTW, don't drink the water.) Don't know about China.

Edit: John Bogle quotes Bernstein's list of 4 key factors for economic growth and human progress. Property rights being the first. Also scientific rationalism, capital markets, and transportation/communication. (I would personally add sanitary living conditions.)
User avatar
nedsaid
Posts: 19249
Joined: Fri Nov 23, 2012 11:33 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by nedsaid »

Dirghatamas wrote:
nedsaid wrote: In your contest, expectations based on economic growth were too high for China, India had lower expectations for growth than for China but still too high compared to the United States. The old expectations vs reality thing.
That's a very good narrative (I would have guessed the same) except that's not what happened. If one looks at valuations as perhaps by P/E or P/Book or CAPE or any technique you could devise based on actual data, then its doesn't explain what actually happened (especially for China)

The insidious problem (IMO) of investing/ overweighting in emerging markets is share dilution. US valuations were actually fairly high in the mid nineties already and are still very high (as measured by P/E). India interestingly also historically always seems to have high P/E. China H shares have a historical mean P/E of only 9 :shock: They are still very cheap by this measure at ~13 today. So taking a ~20 P/E for India and USA during this timeframe, China shares have always been an absolute steal.

The problem that can't be captured by low sounding valuation (low P/E) is share dilution. Let's say we start with a P/E of 10 and the company/country grows by 10% every year. That sounds like a fantastic investment. But, if the company issues 10% extra shares (share dilution) each year either to pay for capital or just to pay insiders/state/corruption, then the existing minority shareholders didn't really benefit from this growth at all. The company is now 10% higher market cap, has 10% more shares, still has a low P/E..the early shareholder basically got 0 returns.

There is a reason I don't tilt to any factor: value/size/emerging markets/country selection/sector selection..whatever. The more you know, the less you know :happy
Another problems are a lack of transparency compared to the United States, a command economy, and economic growth numbers that might be overstated. Certainly the Chinese Government has an incentive to make things look as good as possible. China might have a low P/E but there are reasons to be skeptical of the "E".
A fool and his money are good for business.
garlandwhizzer
Posts: 3562
Joined: Fri Aug 06, 2010 3:42 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by garlandwhizzer »

Very interesting posts. I enjoyed in particular the article cited in chuffy's post, "Does Shiller-PE Work in Emerging Markets?" Sometimes as someone wrote, "the more you know, the less you know." It appears that nothing in the way of predators of future returns gives iron clad guidance.

Garland Whizzer
Valuethinker
Posts: 48954
Joined: Fri May 11, 2007 11:07 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Valuethinker »

The reason for this should be clear.

If you get very fast growth, disruptive change, it destroys barriers to entry. Capital floods in, chasing returns.

Think of any of the great Bubbles. Canals. Railways. PCs. The Internet. Endless oil and mining bubbles.

Relatively few people got rich out of these-- the early movers who then sold on to incomers.

That's what is happening in China. It's a tough place to do business. Fearsomely competitive. Come up with a good idea? New entrants will clobber you. That resembles the US or Britain in the 19th century.

This is known as "capitalism". Well described by Karl Marx, among others.

Contrast that to the US. One retailer (WalMart) dominates retail. There are any number of industries in the US where 2-3 companies dominate the industry-- Cable anyone? And there's been massive industry consolidation-- think Pharmaceuticals. Software (Oracle, IBM, Microsoft). Search (Google). The Apple vertical in the iphone space covering hardware, software and aps. Tobacco. Beer. Banking (4 banks are now c. 70% of retail deposits?).

Same would be true (even more so) of Canada or Australia-- the Big 5 banks in Canada have 90%+ of all retail deposits. Britain 4 banks the same.

India? Somewhere in between. You get these world beaters in the outsourcing area, plus these conglomerates (Ambani/ Reliant, Tata). The old "Licence Raj" is not dead-- it was a good place to make money. Coal of India is a monopoly (albeit a not particularly successful one). etc.
User avatar
nedsaid
Posts: 19249
Joined: Fri Nov 23, 2012 11:33 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by nedsaid »

garlandwhizzer wrote:Very interesting posts. I enjoyed in particular the article cited in chuffy's post, "Does Shiller-PE Work in Emerging Markets?" Sometimes as someone wrote, "the more you know, the less you know." It appears that nothing in the way of predators of future returns gives iron clad guidance.

Garland Whizzer
As much as I like to keep things simple, this gets to be pretty sophisticated stuff. It would seem intuitive that the fastest growing economies would have the highest returns in their stock markets, but it just ain't so.

P/E's are a good indicator but then again it isn't as simple as just picking the investments with the lowest P/E ratios. P/E's can be high because earnings are temporarily depressed but the market expects those earnings to rebound. P/E's can be low because earnings are great now but that the market expects earnings to drop in the near future. Cyclical stocks tend to be cheap when P/E ratios are high and expensive when they are low, that also is not intuitive.

When you look at valuation numbers from Third World countries, you have good reason to have suspicions about the reliability of those numbers. I would be suspicious of any numbers coming from China. My foggy memory banks recall that Chinese P/E's got to be quite high, particularly before the 2008 Beijing Olympics. I saw a lot of articles about investor speculation in the Chinese Stock Market.

Though I like Emerging Markets and have investments there, I have not gone crazy over them. EM can be very volatile and sometimes have the nick-name Submerging Markets. It doesn't always go well there.
A fool and his money are good for business.
Topic Author
Dirghatamas
Posts: 581
Joined: Fri Jan 01, 2016 5:18 pm

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Dirghatamas »

Chuffly wrote: Curious on the source for the mean P/E figure for China.
These are forward PE figures. For the present, I averaged between these sources
http://www.yardeni.com/pub/mscipe.pdf
fig 21, page 13 which estimates it at 12.6

and the index provider MSCI
https://www.msci.com/documents/10199/aa ... 522caa9021
which says the forward PE is 12.4. I then averaged them and rounded them to 13.

For the mean PE, it was off the top of my head based on a CNBC article which I remembered. Here it is
http://www.cnbc.com/2015/08/26/the-worl ... arket.html
Here is the relevant quote from it.
The MSCI China Index is not far off, with a forward P/E ratio of 7.8, 13 percent below its historical average of 9. The MSCI China index has a lower P/E ratio than the Shanghai Composite, the most widely tracked stock index in the mainland. That is because the MSCI index largely tracks Chinese companies listed in Hong Kong, or H-shares, which typically trade at a discount to A-shares – Chinese companies listed in the mainland.
I wasn't satisfied by the quality of that figure because just eyeballing, it looks lower than the average from the Yardeni PDF, so I went to the source, Hong Kong Stock market. They have a downloadable excel file which is backward looking monthly PE starting from 1973 till now. I downloaded it and it averages to ~14 for that ~40 year period. A trailing PE of ~14 probably is consistent with a forward PE of ~12-13 but not 9. The CNBC article didn't give it's source of the 9 mean PE. So, those are my sources.

In any case, whether you believe the actual forward mean PE was 9 or closer to 12-13, they are all significantly lower than historical US PE. However, in this case, having a lower PE didn't (so far) lead to better stock holder returns.
Chuffly
Posts: 61
Joined: Sat Oct 08, 2016 11:27 am

Re: Puzzle for you: Stocks returns vs. Economic Growth

Post by Chuffly »

Dirghatamas wrote:
Chuffly wrote: Curious on the source for the mean P/E figure for China.
These are forward PE figures. For the present, I averaged between these sources
http://www.yardeni.com/pub/mscipe.pdf
fig 21, page 13 which estimates it at 12.6

and the index provider MSCI
https://www.msci.com/documents/10199/aa ... 522caa9021
which says the forward PE is 12.4. I then averaged them and rounded them to 13.

For the mean PE, it was off the top of my head based on a CNBC article which I remembered. Here it is
http://www.cnbc.com/2015/08/26/the-worl ... arket.html
Here is the relevant quote from it.
The MSCI China Index is not far off, with a forward P/E ratio of 7.8, 13 percent below its historical average of 9. The MSCI China index has a lower P/E ratio than the Shanghai Composite, the most widely tracked stock index in the mainland. That is because the MSCI index largely tracks Chinese companies listed in Hong Kong, or H-shares, which typically trade at a discount to A-shares – Chinese companies listed in the mainland.
I wasn't satisfied by the quality of that figure because just eyeballing, it looks lower than the average from the Yardeni PDF, so I went to the source, Hong Kong Stock market. They have a downloadable excel file which is backward looking monthly PE starting from 1973 till now. I downloaded it and it averages to ~14 for that ~40 year period. A trailing PE of ~14 probably is consistent with a forward PE of ~12-13 but not 9. The CNBC article didn't give it's source of the 9 mean PE. So, those are my sources.

In any case, whether you believe the actual forward mean PE was 9 or closer to 12-13, they are all significantly lower than historical US PE. However, in this case, having a lower PE didn't (so far) lead to better stock holder returns.
Interesting information. Thanks!
Post Reply