We think that stocks in the US market will be fully valued when the S&P 500 Index hits the 3000 mark by the end of this decade. Here’s why.

A classic value method is to observe and estimate the equity risk premium (ERP). This method compares the earnings yield (earnings divided by price) to the riskless yield (US Treasury). Some use shorter-term Treasury yields; others use longer-term. Some modify for risk to adjustments in the corporate earnings outlook, while others add an expectations component. Over time, the way an estimate of ERP is derived has become complex.

We use a dozen methods in our shop. The key is either to decide on one method or to use many methods and adjust the mix by weighting them. In any case, take the earnings yield and subtract the selected riskless yield and the difference is the ERP.

The key to the ERP is to assume that it is the amount an investor is getting paid to take on the risk of owning stocks instead of choosing to buy a riskless bond or an interest-paying security.

Let’s just use one reference method for this commentary: the 10-year US Treasury note.

We have now seen enough to estimate 2019 earnings of $150–$160 for the S&P 500 Index. This is the range of estimates after analysts have had some time to revise their numbers and to consider the effects of the tax code changes. These estimates are based on static analysis. We think they are low because we expect some positive impact from repatriation, and we estimate that the US GDP growth rate will be close to 3%, rather than the current updated consensus estimates of 2.5%–2.6%. Remember that in the national accounting system after-tax profits are derived from the GDP with adjustments for foreign factors. Earnings of public companies that trade on the stock exchanges are a part of the profit picture in the GDP accounts. The tax code changes boost after-tax profits; hence they boost earnings.

So let’s use the high-end estimate of $160 for 2019. Now add the nominal GDP growth rate of 3% real plus 2% inflation. Also adjust for internal corporate leverage, because earnings grow faster than nominal GDP does. We have not adjusted for repatriation funds used in stock buybacks. That is going to happen, but we do not know to what extent. That adjustment will only raise earnings per share, but we will assume it is zero for the exercise.