Salient to Investors:
Doug Short writes:
- The S&P 500 is at 18.7 times reported earnings versus the average since the 1870s of 15. In times of critical importance, the conventional P/E ratio often lags the index to the point of being useless as a value indicator because earning can fall faster than price.
- The negative S&P 500 earnings of Q4, 2008 never happened before.
- Graham and Dodd attributed the illogical P/E ratios to temporary and sometimes extreme fluctuations in the business cycle and adjusted P/E ratios for earnings over 5, 7 or 10 years. Shiller modified the 10-yr ratio and inflation-adjusted earnings, creating the CAPE ratio.
- The CAPE ratio closely tracks the inflation-adjusted price of the S&P Composite with a detrended correlation since 1881 of 0.9976.
- The CAPE is at 24.9 versus the historic average of 16.5 and the all-time high of 44 in December 1999 and 1929 high of 32.6. CAPE ratios were in the single digits at the secular bottoms in 1921, 1932, 1942 and 1982.
- Historically, whenever the CAPE ratio fell from its top to its second quintile, it has eventually declined to the lowest quintile and bottomed in single digits.
Read the full article at http://www.advisorperspectives.com/dshort/updates/PE-Ratios-and-Market-Valuation.php
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