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Standard equity risk premium analysis compares the S&P 500 earnings yield (inverse of CAPE or forward P/E) against the 10-year treasury yield. That comparison is useful but it uses GAAP net income as the numerator, which includes items that don't represent cash available to shareholders.
True FCF yield substitutes operating cash flow minus CapEx minus stock-based compensation for the earnings numerator. The deductions matter:
* CapEx: capital expenditures represent real cash leaving the business to fund physical or technological infrastructure. GAAP accounting depreciates this over time, spreading the cash outflow across multiple income statement periods. In a year where a company spends $60B on data centers, the income statement shows depreciation of maybe $15B while $60B of actual cash exits. The income statement looks much better than the cash flow statement.
* SBC: stock-based compensation is a real economic expense. Employees receive shares worth real money. The company didn't pay cash but shareholders were diluted. Excluding SBC from the expense base overstates the cash available to existing shareholders. This has been a persistent issue in tech sector earnings analysis for two decades but it's gotten materially worse as AI-era compensation packages have expanded.
The 2026 gap: my screener shows that the divergence between S&P 500 aggregate earnings yield and S&P 500 aggregate true FCF yield widened by approximately 1.4 percentage points in 2026. This is primarily driven by the hyperscaler CapEx surge. Microsoft FY2024 is the clearest single example: true FCF fell 8.5% from $59.6B to $54.6B while revenue grew 18%, because CapEx grew 79.6% while OCF grew 34.4%. Amazon's true FCF is negative $11.8B. Oracle's is negative $28.5B. These companies are large enough index weights that their CapEx surge materially moves the aggregate.
The core empirical finding is a scatter plot of monthly 10-year treasury yields against S&P 500 earnings yields going back to the 1970s. The relationship is positive and well-documented. What's less commonly framed is the stability band observation: between roughly 5-7% treasury yields, the scatter shows that earnings yield can run below treasury yield without provoking a correction. My interpretation is that 5-7% treasuries represent a monetary policy equilibrium that allows equity multiples to stay elevated because neither deflation fear nor inflation fear is dominant.
Below 4% treasuries: post-crisis fear drives a large equity risk premium demand. Investors won't accept lower equity yields than treasury yields because the memory of catastrophic loss is fresh.
Above 8% treasuries: inflation fear drives similar equity risk premium demand. Investors want to be compensated for holding equities in an environment where money is losing purchasing power.
Between 5-7%: neither fear is dominant. Multiples get rich. Risk premiums get thin.
We're currently at approximately 4.6-4.7% on the 10-year. Below the lower bound of the stability band. The earnings yield is already negative relative to treasuries by 1.11%. Once you substitute true FCF yield for earnings yield the gap widens to negative 2.51%.
That specific level of negative true FCF risk premium appears in the historical data in roughly four periods: 1987, 1992, 2000, and the immediate post-2008 period when earnings collapsed while prices hadn't yet adjusted. In each case the resolution was either a rapid earnings increase or a price decline.
The risk premium analysis would be concerning on its own. The macro overlay makes it more acute.
Kevin Warsh's stated policy priorities include reducing the Fed's balance sheet presence, eliminating forward guidance, and rethinking the employment mandate in light of AI-driven labor market disruption. The task force composition, specifically Marc Andreessen on labor markets alongside a Stanford professor with Anthropic ties, signals that the Fed's intellectual framework is being rebuilt around AI displacement of the Phillips Curve relationship rather than traditional unemployment-inflation tradeoffs.
The problem as I see it through the Sumner NGDP targeting lens: Warsh appears to be keeping rates flat while NGDP is running hot. If you accept that the stance of monetary policy is better measured by NGDP growth than by the nominal fed funds rate, then flat rates with 7% NGDP growth is loose policy, not neutral policy. Loose policy while the equity risk premium is already deeply negative historically precedes the kind of violent correction that resolves the gap.
The four-step sequence I'm tracking: too-loose policy keeps inflation hot and rotation stays in effect, then inflation becomes entrenched and longer rates follow it up compressing multiples, then the Fed is forced into harsh medicine, then fiscal expansion attempts recovery and crowds out private investment reprising step two on steroids. Warsh's specific risk is that his philosophical opposition to forward guidance removes the communication tools that have historically smoothed the transition between steps.
How I'm positioned: Weighted portfolio true FCF yield: 8% against a 4.6% 10-year. Positive risk premium of 3.4%.
The specific positions that generate that yield: CMCSA at 17.5% true FCF yield on a scheduled spinoff. THC at 12.7% normalized. EPD at 10.6% using distribution yield methodology. ADBE at 8.6%. FDS at 5.84% with four consecutive quarters of ASV acceleration. CB and FRFHF as insurance float compounders. BRK.B as crash optionality.
USFR at 18.79% of portfolio as explicit optionality for the scenarios where the risk premium gap resolves violently rather than gradually.
I'm not claiming this portfolio is correct. I'm claiming that a portfolio running a positive 3.4% true FCF risk premium is historically better positioned for the range of outcomes than a portfolio running a negative 3.5% risk premium regardless of which specific macro scenario materializes.
Full piece with the scatter plot, the true FCF divergence chart, and the complete allocation breakdown at [https://cavemanscreener.substack.com/p/macro-vs-free-cash-flow-yield-a-thesis](https://cavemanscreener.substack.com/p/macro-vs-free-cash-flow-yield-a-thesis)