The Extra Reward for Owning Stocks Over Bonds Has Disappeared
There is little sign of crimped demand for equities among individual investors, who remain bullish after two years of blockbuster gains
Stocks haven’t looked this unattractive, by at least one measure, since the aftermath of the dot-com era. Plenty of investors are piling in anyway.
The equity risk premium, often defined as the gap between the S&P 500’s earnings yield and that of 10-year Treasurys, turned negative in late December for the first time since 2002 and sat last week at negative 0.15 percentage point.
The metric is based on a calculation of how much stocks yield, which is derived by dividing the stock market’s expected earnings by its price. The earnings yield is then compared with the yield on government debt.
The difference between stock and bond earnings yields shows how much investors are compensated for the additional risk of owning stocks over relatively risk-free government bonds. Over the long term, stocks need to promise a higher reward than bonds. If not, the safety of Treasurys would outweigh the risks of stocks losing some, if not all, of investors’ money.
In recent weeks, a combination of higher Treasury yields and soaring equity valuations pushed the equity risk premium into the red. That could pose a threat to the recently rekindled stock rally.
In reality, though, there has been little sign of crimped demand for equities among individual investors, who remain bullish after two years of blockbuster gains.
“I think you get what you pay for,” said Mike Ugino, a 73-year-old retired surgeon in Columbia, S.C. High valuations haven’t deterred him from scooping up more shares of Robinhood Markets, Nvidia and Intuitive Surgical in recent weeks.
Despite his age, Ugino keeps more than 80% of his portfolio in equities and said he believes tech stocks including Tesla and Meta Platforms can keep powering double-digit-percentage gains in major stock-market indexes in 2025.
“I don’t think you can sit back and have a 60-40 portfolio. I think that’s the stone age,” he said, referring to the traditional mix of stocks and bonds that was for years considered a safe and steady way to expand one’s nest egg.
“You want to make sure you’re invested with these companies that are proven winners,” he added. “You don’t want to bet against these guys. You don’t want to bet against Elon Musk.”
In the coming days, investors are awaiting the Federal Reserve’s next interest-rate decision and a spate of corporate earnings from the likes of Tesla, Microsoft and Starbucks as they weigh whether or not stocks look pricey.
Ugino is far from alone in his optimism. Investors poured $62.5 billion into U.S. equity mutual and exchange-traded funds in December, according to Morningstar Direct data, the highest monthly inflow on record.
The postelection stock rally found its second wind earlier this month after a round of reassuring inflation data brightened investors’ economic outlook. The S&P 500 set its first record of 2025 on Thursday and is up 3.7% this month.
Optimism among investors swelled. The percentage who are bullish and expect stock prices to rise over the next six months jumped to a seven-week high of 43.4% for the period ended Wednesday, up from 25.4% a week before, according to survey data from the American Association of Individual Investors.
Some factors that helped fuel last year’s blockbuster gains—such as the promise of artificial intelligence—are driving confidence.
Despite being a former bond trader, Robin Davis Wilson keeps the entirety of her $1.7 million portfolio in the stock market. Big tech stocks including Apple, Amazon.com, Microsoft and Nvidia comprise about 60% of her investments.
“That’s almost an anomaly, for someone my age to be that aggressive,” the 61-year-old small-business owner said. “I’m a big believer in these big stocks.”
Wilson has firsthand experience with how a bet on big tech can pay off. She purchased $100,000 of Nvidia shares in 2021, before the stock soared. That investment, which she still holds, is now valued at seven times that amount.
She is monitoring potential risks to equity prices, such as the threat of another interest- rate increase or the impact of President Trump’s economic policies. But those headlines are unlikely to shift her strategy.
“There’s going to be some volatility, but it’s not going to change my course of action,” she said.
U.S. investors’ affinity for equities has been shaped by a series of challenging years for the bond market. In 2022, the classic 60-40 strategy fell apart when both stocks and bonds sank in tandem, shrinking many households’ savings. For the first time in decades, fixed income didn’t act as a hedge against a stock-market downturn.
Now, bond investors are worrying that a tough market could get worse if the Trump administration raises the federal deficit or enacts inflationary policies such as tariffs.
“The majority of advisers that we’re working with, they’re buying bonds for protection,” said Tim Urbanowicz, chief investment strategist at Innovator Capital Management. “I think 2022 really woke a lot of people up to the fact that it doesn’t always work that way.”
The yield on 10-year Treasurys peaked above 4.8% two weeks ago and settled Friday at 4.624%.
Persistently high yields could pressure the equity risk premium and threaten stocks’ rise. Market watchers are monitoring those odds. In a recent Bank of America Global Research survey of fund managers, 36% said they see a disorderly rise in bond yields as the most bearish potential development this year. That number ticked higher from December.