Stocks Are Cheap…Compared to Bonds

Despite the recent S&P 500 rally, stocks are still cheap relative to bonds, that’s the key takeaway from a research note out today from Bank of America Merrill Lynch, which looks at the Fed Model of equity valuation.

In Year of “Improbable” Events, Stock Rally Is A Valuation Fairy Tale

The Fed Model is based on the comparison of the earnings yield on stocks with bond yields. It’s a simple strategy the many investors tend to overlook in favour of more complex valuation methods.

Bulls argue that the spread between bond yields and the earnings yield will normalise as equity valuations re-rate higher – a simple mean reversion trade. However, the spread can also mean-revert if earnings start to fall, or...