Returns of the Nifty Fifty

Let's trace the performance of the Nifty Fifty stocks as identified by Morgan Guaranty Trust, one of the largest managers of equity trust assets.3 These stocks are listed in Table 7-1, along with their 1972 price-to-earnings (P/E) ratios. The product lines of these stocks range from drugs, computers and electronics, photography, food, and tobacco to retailing, among others. Notably absent are the cyclical industries: auto, steel, transportation, capital goods, and oil.

3 Noted by M. S. Forbes, Jr., in ''When Wall Street Becomes EnamoFolrb es, December 15, 1977, p. 72.

TABLE 7-1

Nifty Fifty Returns from Market Peak, December 1972 to June 1997

TABLE 7-1

Nifty Fifty Returns from Market Peak, December 1972 to June 1997

Annualized

1972 Actual P/E

Warranted

EPS Growth (%)

Return (%)

Ratio

P/E Patio

(through 1996)

Philip Morris Cos. Inc.

19.9%

24.0

78.2

17.9%

Gillette Co.

18.3%

24.3

54.5

10.4%

Coca-Cola Co.

17.2%

46.4

92.2

13.5%

Pfizer Inc.

16.9%

28.4

54.9

12.2%

Pepsico Inc.

16.7%

27.6

52.4

11.2%

Bristol-Myers

16.7%

24.9

46.4

12.7%

Merck & Co. Inc.

16.1%

43.0

74.4

15.1%

Heublein Inc.

16.0%

29.4

47.5

n/a

General Electric Co.

15.4%

23.4

34.7

10.9%

Squibb Corp.

15.3%

30.1

45.1

n/a

Lilly Eli & Co.

13.8%

40.6

46.7

10.9%

Procter & Gamble Co.

13.7%

29.8

33.6

13.9%

Schering Corp.

13.7%

48.1

54.4

12.9%

Revlon Inc.

13.3%

25.0

26.9

n/a

American Home Products Corp.

13.1%

36.7

38.1

10.5%

Johnson and Johnson

12.9%

57.1

56.8

14.2%

Chesebrough Ponds Inc.

12.4%

39.1

36.2

n/a

Anheuser-Busch Inc.

12.3%

31.5

28.7

9.3%

First National City Corp.

12.3%

20.5

18.9

12.3%

Schlumberer Ltd.

12.2%

45.6

40.3

11.5%

McDonald's Corp.

12.0%

71.0

59.2

17.5%

Disney Walt Co.

11.7%

71.2

56.4

14.6%

DowChemical Co.

11.5%

241

19.5

12.2%

American Express Co.

11.1%

37.7

28.4

9.6%

American Hospital Supply Corp.

10.9%

48.1

34.1

n/a

Minnesota Mining & Manufacturing Co.

10.5%

39.0

27.2

8.7%

Upjohn Co.

9.5%

38.8

22.8

11.3%(a)

AMPInc.

9.3%

42.9

22.5

9.5%

Lubrizol Corp.

9.1%

32.6

18.4

9.4%

Texas Instruments Inc.

9.0%

39.5

19.4

12.7% (b)

Int'l Telephone & Telegraph Corp.

8.7%

15.4

9.2

2.7% (a)

Sears Roebuck & Co.

8.3%

29.2

15.7

4.5%

Int'l Flavors & Fragrance

8.3%

69.1

33.2

9.4%

Halliburton Co.

8.3%

35.5

16.8

3.9%

Baxter Labs

8.3%

71.4

30.1

10.5%

Penney J.C. Inc.

8.1%

31.5

15.8

5.0%

107

International Business Machines

7.1%

35.5

15.4

6.6%

Schlitz Joe Brewing Co.

6.6%

39.6

15.0

n/a

Xerox Corp.

6.3%

45.8

18.3

5.1%

Louisiana Land & Exploration Co.

5.5%

26.6

9.8

1.2%

Eastman Kodak Co.

5.5%

43.5

15.6

5.9%

Avon Products Inc.

4.7%

61.2

22.8

3.3%

Simplicity Patterns

4.7%

50.0

7.8

n/a

Digital Equipment Corp.

3.8%

56.2

7.2

-12.6%

Black and Decker Corp.

2.6%

47.8

10.1

3.4%

Kresge (S.S.) Co.

2.0%

49.5

9.6

1.2%

Polaroid Corp.

1.7%

94.8

16.5

-2.9%

Emery Air Freight Corp.

-1.0%

55.3

8.8

n/a

Burroughs Co.

-3.9%

46.0

4.2

-16.6%-

M. G. I C. Investment Corp.

-8.6%

68.5

4.8

n/a

Rebalanced Portfolio

12.7%

41.9

40.5

11.0%

Non-rebalanced Portfolio

12.4%

41.9

38.6

11.0%

S&P 500

12.9%

18.9

18.9

8.0%

* Companies had negative EPS in last measured - used $0.01 /share to calculate EPS growth. (a) earnings growth through 1994; (b) earnings growth through 1995;

* Companies had negative EPS in last measured - used $0.01 /share to calculate EPS growth. (a) earnings growth through 1994; (b) earnings growth through 1995;

Many of the original Nifty Fifty stocks are still giants today. In 1997, 15 occupy the top 40 U.S. stocks in terms of market capitalization and six (General Electric, Coca-Cola, Merck, Philip Morris, Procter and Gamble, and IBM) are among the top 10. Corporate changes in the Nifty Fifty since the early 1970s are described in the appendix.

The Nifty Fifty did sell at hefty multiples. The average price-to-earnings ratio of these stocks was 41.9 in 1972, more than double that of the S & P 500 Index, while their 1.1 percent dividend yield was less than one-half that of other large stocks. Over one-fifth of these firms sported price-to-earnings ratios in excess of 50, and Polaroid was selling at over 90 times earnings.

Table 7-1 ranks these stocks according to their annual compound returns from December 1972 through June 1997.4 December 1972 was chosen because an equally weighted portfolio of each of these stocks peaked in that month, which was considered the height of the Nifty Fifty mania.

Consumer brand-name stocks, such as Philip Morris, Gillette, Coca-Cola, and PepsiCo, were clearly the star performers after the 1972 peak. The drug stocks also performed extremely well. Merck, Bristol-Myers (which absorbed Squibb), Schering, Pfizer, Upjohn, and Johnson & Johnson all beat the S & P 500 Index. But the biggest winner was Philip Morris, which had an outstanding 19.9 percent annual return after December 1972.

Of course there were also some big losers. Technology issues as a whole did badly and three stocks, Emery Air Freight, Burroughs, and MGIC Investment Corp., had negative returns.

Evaluation of Data

Did the Nifty Fifty stocks become overvalued during the buying spree of 1972? Yes—but by a very small margin. An equally weighted portfolio of Nifty Fifty stocks formed at the market peak in December 1972 and rebalanced monthly would have realized a 12.7 percent annual return to June 1997, just slightly below the 12.9 percent return on the S & P 500 Index.5 The same portfolio would have returned 12.4 percent if it were never rebalanced over time.

4 I used the following procedure to compute total returns to the Nifty Fifty stocks over the entire period. If a stock merg ed with or was acquired by another firm, I combined the returns on the two stocks at the appropriate date of change. If the company went private, I spliced the return on the S & P 500 Index from that date forward.

5 The average annualized return of a portfolio of stocks is larger than the average annualized return of the individual stocks because of the mathematics of compound returns.

Figure 7-1 shows the degree of over- or undervaluation of an equally weighted portfolio of the Nifty Fifty from December 1972 to June 1997. A fairly valued portfolio would show the same return as the S & P 500 Index over this time period, an overvalued portfolio would underperform the Index, and an undervalued portfolio would outperform the Index. In December 1972, at the peak of the Nifty Fifty mania, these stocks were overvalued by only about 3. 1 percent on the basis of their return over the next 25 years, but after 1976 they became greatly deeply undervalued.6

Since the average dividend yield on the Nifty Fifty was more than IV2 percentage points below the yield on the S & P 500 Index, most of their return came from lightly taxed capital gains. The after-tax yield on

-97C' -97n 1574 1975 16J8 J9£.: 1H35 lpS^ 'SSE 1BW IfliC 1M? '994 1&96

FIGURE 7-1

Valuation ofan Equally Weighted Nifty Fifty Portfolio Relative to the S & P 500, December 1970 to June 1997

6 The Nifty Fifty became slightly more overvalued after the market began to decline in 1973, reaching a maximum overvaluation of 7.1 percent in August.

-97C' -97n 1574 1975 16J8 J9£.: 1H35 lpS^ 'SSE 1BW IfliC 1M? '994 1&96

FIGURE 7-1

Valuation ofan Equally Weighted Nifty Fifty Portfolio Relative to the S & P 500, December 1970 to June 1997

a portfolio of Nifty Fifty stocks, purchased at their market peak, would have surpassed the after-tax yield on the S & P 500 Index for an investor in or above the 28 percent tax bracket.

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