Why the Stock Market Can Go Up Forever

You may already know that, historically, the stock market tends to rise over the long run. This makes sense -- as gross domestic product grows, so should corporate profits, and thus stocks.

Inflation, increasing employment rates, and population growth can all boost GDP.

But what if there's little inflation (like there is now), high unemployment (like there is now), and little population growth (like there is now). Can corporate profits -- and the stock market -- still go up?

Sure!
The answer is a resounding yes -- and the reason is simply increased productivity. As Americans become more and more productive, profits rise.

So what is increased productivity? It's delivering more value with the same amount of time, effort, and cost. For example, suppose you grew 100 apples in your garden last year after 100 hours of back-breaking labor. Then, this year, you realize that you were overwatering and hurting your yield, so you water less and grow 150 apples with the same amount of labor. You've become more productive!

So how does increased productivity drive the stock market higher? Well, increased productivity:

1. Makes more goods for the same amount of input costs, which
2. Makes profits go up, which
3. Helps push stocks up!

In a nutshell, that's how increased productivity helps to drive the stock market higher.

This isn't idle theory. In fact, The Conference Board reports that average GDP per worker, one measure of productivity, has nearly tripled since 1950 -- and often spikes after recessions. The board expects a 3% rise for 2010, a rate we haven't experienced since the late 1990s.

How to profit
Investments in broad-market indexes like the S&P 500 will, to some degree, benefit from increasing economic productivity.

But if you want to focus on specific companies, an excellent metric to get a picture of a company's efficiency is its operating margin. This is a company's operating profit (sales minus cost of goods sold and operational expenses) divided by sales. It tells you how much operating profit a company is able to squeeze out of every dollar of sales.

Seventeen members of the S&P 500 were both able to maintain at least a 15% operating margin over the last four 12-month periods and were able to produce a higher operating margin over the last 12 months than over each of the other three periods. In the midst of a global recession, those are tough hurdles.

Here are the 10 names with the highest improvements over their three-period averages:

Source: Capital IQ, a division of Standard & Poor's.

If you invest in market indexes or individual stocks (at fair prices, of course), take comfort in knowing that, as long as we become more productive over time, your investments can continue to grow.