B. Bogle's 3-step Process
Step 1. Consider Dividend Yields
Dividend yields have accounted for a significant part of historical stock returns. Currently, S&P 500 has average dividend yield of 2%.
Step 2. Add Earnings Growth Rate
The historic earnings growth rate has been around 5% annually for the past 100 years. Add this to the dividend yield, it means you could expect average 7% annual return if you invest in S&P 500 today.
Step 3. Adjust for Earning Multiples
Earnings multiple reflects how much an investor is willing to pay based on the earnings. Today, S&P 500's earning multiple is about 20, if this goes back to the historic average of mid teen, the 7% annual return derived after step 2 should be adjusted to around 4%, much less than the historic stock market's return of 10% for the future.
You can apply the above method to the stocks of your interest and come up with your own prediction of future returns. In our next blog post, we will introduce the third method for a small investor to predict the future.