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I would leave the forecasting ability of the metric out of this and simply say that low is good and high is bad. Sven's post of the growth in earnings or the E part of the P/E only sets the bar higher for companies to match or exceed their previous high profitability to justify their already elevated P/E. The higher the metric goes, the less room there is for error in execution. But making forward projections is always dangerous--that old saw--"the market can stay irrational longer than you can stay solvent."
Bloomberg was talking about high PEs this morning. Hard for me to get my head around the intricacies involved in attaching relevance to whatever number is reported.
Here’s where I am able to get my head around numbers somewhat: The Dow bottomed in March 2009 at 6,470 (because most everybody was afraid to own stocks). Today, it sits at 29,000. Roughly speaking, that’s equivalent to a doubling every 5.5 years. At that rate, my unscientific projection puts the DJI right around 60,000 by the end of 2025.
The following is a comment I made many times before in several forums. PE, PE10, inverted yield curve other experts such as Bogle, Arnott (PAUIX) and GMO can be off by months and years. Regression to the mean can be off by years.
@davidrmoran Pretty much what I said. It's not a short-term prognostication tool, but a long-term indicator that I think is worth knowing:
The thing is, Robert Shiller is aware that CAPE does a terrible job of telling traders when to buy and sell stocks. He explained to Business Insider's Henry Blodget two years ago.
John Campbell, who’s now a professor at Harvard, and I presented our findings first to the Federal Reserve Board in 1996, and we had a regression, showing how the P/E ratio predicts returns. And we had scatter diagrams, showing 10-year subsequent returns against the CAPE, what we call the cyclically adjusted price earnings ratio. And that had a pretty good fit. So I think the bottom line that we were giving – and maybe we didn’t stress or emphasize it enough – was that it’s continual. It’s not a timing mechanism, it doesn’t tell you – and I had the same mistake in my mind, to some extent — wait until it goes all the way down to a P/E of 7, or something.
In other words, don't dump stocks and hide in cash because the CAPE is at 26. Rather, just be prepared lower average returns for years to come.
Ultimately, a PE ratio is just not a good tool for predicting 12-month returns. Having said, it's probably best not to play the game of predicting 12-month returns.
The following is a comment I made many times before in several forums. PE, PE10, inverted yield curve other experts such as Bogle, Arnott (PAUIX) and GMO can be off by months and years. Regression to the mean can be off by years.
As someone famous once said - “the market can stay irrational longer than you can stay solvent”.
Comments
Here’s where I am able to get my head around numbers somewhat: The Dow bottomed in March 2009 at 6,470 (because most everybody was afraid to own stocks). Today, it sits at 29,000. Roughly speaking, that’s equivalent to a doubling every 5.5 years. At that rate, my unscientific projection puts the DJI right around 60,000 by the end of 2025.
Believe it or not?
https://www.businessinsider.com/sp-500-cape-vs-sp-500-12-mth-forward-returns-2015-2
Oh, and add John Hussman to that list.
I see that for the last 10 months or so SP500 has outperformed CAPE, which may be a first, and CAPE in turn has outperformed DSEEX.