Relative Attractiveness of Equities Implied by the Fed Model
The long-term correlation between the equity earnings yield and 10-year government bond yields, often referred to as the “Fed model,” is widely used for equity valuations. Despite the recent rally in global equity markets, spreads between equity earnings yields and 10-year government bond yields in major advanced economies are still generally higher than their pre-2008 averages. This implies that equities should have room to grow further, as government bond yields remain at low levels owing to major central banks’ easing policies.
THE SPREAD BETWEEN EQUITY EARNINGS YIELDS AND 10-YEAR GOVERNMENT BOND YIELDS