ASX200 appropriate yield when cash rate around 50 basis points

Ever since the RBA started it's most recent cycle of interest rate cuts from 1.5% to 0.75% I have been thinking about what Buffett said in one of his interviews. He said interest rates are like gravity for stock prices. The higher they go the lower stocks prices go and I guess vice versa is true as well. So if interest rates go down stock prices tend to go up.

Recent jobs reports where economy lost jobs and unemployment rate jumped to 5.3% market's response was more cuts were certain possibility. Even RBA board meeting minutes for November mentioned it was a close call between cutting and staying put. So the board is definitely dovish.

So assuming by Feb-March 2020 RBA cash rate is around 0.25%-0.5% what yield is appropriate for ASX200 to trade at. Knowing well that term deposits and bonds would be yielding under 1% and investors would be looking desperately to earn some income.

Historically, ASX200 has traded at yield of around 4%. But that is when interest rates have been much higher.

I would be very surprised if ASX200 keeps trading at 4% yield when cash rate is 0.5%. I think it would make sense for the ASX200 to trade at around 3 to 3.5% yield if we add 2.5% to 3% equity risk premium above RBA cash rate.

So based on some back of the envelope number crunching I have come to following conclusions. This is without factoring in any growth in earning/dividends for 2020.

If ASX200 trades at 3.5% yield then market needs to rise another 11.9% from current levels of 6800. That takes it to 7609.

If ASX200 trades at 3% yield then market needs to rise another 30.56% from current levels of 6800. That takes it to 8878 .

Good idea to have a poll to see what PC members think

My vote is somewhere between 3 to 3.5%

Cheers,
Oracle.

 

Nearing 7100 mark. Looks like the market is definitely re-rating stocks and P/E ratios based on the RBA cash rate.

Cheers
Oracle