David Fuller's view The previous valuation cycle commenced in 1966, just as I was entering the financial industry because "stock markets always went up." It was a steep learning curve, as you can see on this historic chart of the DJIA which had a glass ceiling near 1025. I mark the end of this valuation contraction as occurring in 2Q 1982, when the S&P 500 Index yield reached its high point at 6.21%.

You can see from the two charts above that secular valuation cycles do not end with the indices at historic lows. In fact, they are well above their index trough for the cycle because GDP growth, earnings increases and rising dividends are responsible for the much improved valuations. Needless to say this could only occur if investors had abandoned the 'risky, non performing stock market' for 'safe haven' of high government bond yields, despite falling bond prices due to Paul Volker's monetary squeeze to ring inflation out of the system.

The last secular valuation contraction for the US stock market lasted about 16 years. We are in the 12th year of the current valuation contraction, as you can see from the S&P's PER chart over the last 20 years, and similarly on the gently rising Yield chart, both of which were distorted by the 2008 crash. If this valuation contraction lasts for approximately 16 years it would be ending around 2016. For good measure, I also include the 20-year history for the UK FTSE 100 Index's PER and Yield.

While the sideways ranging of the DJIA and S&P 500, plus their gradually improving valuations are a fact, as you can see from the charts above, the rest of this analysis is highly theoretical, not least because the background is so different. Currently, US bond yields are near historic lows compared to historic highs of the early 1980s. QE has been a major factor in keeping bond yields low and stock markets firmer than would otherwise be the case.

I think it is most unlikely that the S&P yield will get anywhere near its 1982 level in an era of historically low interest rates. I also maintain that the S&P Index's low in March 2009 is the equivalent of its 1974 trough. I further maintain that the eventual rise in bond yields will be bullish for shares, initially, as investors switch some of their capital from fixed interest to equities.