• Stock Strategies
  • A Cautionary Note About Robert Shiller’s CAPE

    by Stephen E. Wilcox

    One measure of market valuation that has become widely popular is the CAPE, the cyclically adjusted price-earnings ratio. It was developed by Robert Shiller, a professor of economics at Yale University and author of “Irrational Exuberance” (Crown Business, 2006).

    Shiller defines the numerator of the CAPE as the real (“inflation-adjusted”) price level of the S&P 500 index and the denominator as the moving average of the preceding 10 years of S&P 500 real reported earnings, where the U.S. Consumer Price Index (CPI) is used to adjust for inflation. The purpose of averaging 10 years of real reported earnings is to control for business cycle effects. Table 1 provides a detailed example of how the CAPE is determined.

    It is frequently suggested that the CAPE should be considered a mean-reverting series. As can be seen in Figure 1, the CAPE was reported as 23.35 during the month of July 2011 on the Irrational Exuberance website (www.irrationalexuberance.com). Per an analysis frequently used in practice, comparing the July 2011 CAPE to its long-term average of 16.41 indicates that U.S. stocks are currently overvalued by 42.3%.

    In contrast, on July 22, 2011, Standard & Poor’s reported a price-earnings ratio of 16.17 based on reported earnings for the S&P 500 index. The price-earnings ratio based on operating earnings (which excludes write-offs and other special items) was 14.84. Both of these measures are well below their average since the fourth quarter of 1988, which suggests that stocks are certainly not overvalued to the degree predicted by the CAPE analysis and may actually be undervalued. Thus, investors are left in a quandary as to which measure of valuation is most appropriate.

    This article makes the case that the comparison of the July 2011 CAPE to its long-term average provides an overly bearish view of the stock market and that the traditional price-earnings ratio based on either reported earnings or operating earnings is a better measure of the worth of U.S. equities in July 2011. As first used by Shiller in his book, the CAPE was undoubtedly a very useful tool for identifying overvaluation at the height of the late-1990s stock market “bubble.” However, like all other valuation metrics, the CAPE has its limitations, and these limitations derive from how it is computed.

    The Length of the Business Cycle

    In their classic 1934 book “Security Analysis,” legendary investors Benjamin Graham and David Dodd noted that traditionally reported price-earnings ratios can vary considerably because earnings are strongly influenced by the business cycle. To control for cyclical effects, Graham and Dodd recommended dividing price by a multi-year average of earnings and suggested periods of five, seven or 10 years. Following the Graham-Dodd recommendation, Shiller uses a 10-year moving average of earnings in computing the CAPE.

    The problem with this assumption is that the typical or average business cycle has been significantly shorter than 10 years. According to data compiled by the National Bureau of Economic Research, economic contractions have become shorter and expansions longer in recent years. Furthermore, while the business cycle has lengthened in recent years, it is still considerably shorter than 10 years. Measured trough to trough, the average business cycle has been six years and one month for the most recent 11 cycles. Measured peak to peak, the average is five years and six months.

    The problem with using a moving average that is longer than the business cycle is that it will overestimate “true” average earnings during a contraction and underestimate “true” average earnings during an expansion. According to the National Bureau of Economic Research, the last recession ended in June 2009 and the U.S. economy is now in an expansion phase. Thus, the average earnings estimate used by the July 2011 CAPE is too low and produces a bearishly biased estimate of value.

    Using Shiller’s data, a July 2011 CAPE based on the average of six years of real earnings is 21.26 and the long-term average CAPE based on the average of six years of real earnings is 15.78. Comparison to this average indicates that stocks are overvalued by 34.7%. While still signaling that stocks are overvalued, the degree of overvaluation is much less than the 42.3% estimate provided by the July 2011 CAPE based on a 10-year average of real earnings.

    Based on July 25, 2011, data from the Irrational Exuberance website.
    Date-1 S&P 500
    Price Index
    Real S&P
    500 Index-3
    Nov-10 1198.89 75.52 218.803 1235.48 77.82 21.69
    Dec-10 1241.53 77.35 219.179 1277.22 79.57 22.39
    Jan-11 1282.62   220.223 1313.24   22.97
    Feb-11 1321.12   221.309 1346.02   23.56
    Mar-11 1304.49   223.467 1316.24   23.05
    Apr-11 1331.51   224.906 1334.91   23.38
    May-11 1338.31   225.964 1335.44   23.38
    Jun-11 1287.29   225.722 1285.91   22.49
    Jul-11 1337.43*   225.48** 1337.43   23.35


    1. Shiller’s data set begins in January 1871.
    2. Earnings are reported quarterly and reflect the last four quarters of data. The CAPE uses a linear weighting to determine monthly earnings and does not use earnings estimates but relies on actual data. Reported earnings for first quarter 2011 were not included in the July 25, 2011, CAPE computation.
    3. The S&P 500 index and reported earnings are adjusted for inflation using the U.S. Consumer Price Index where real values reflect July 2011 purchasing power. For example:
      December 2010 real earnings = $77.35 × (225.48 ÷ 219.179) = $79.57
      July 2011 real S&P 500 index = 1337.43 × (225.48 ÷ 225.48) = 1337.43
    4. The CAPE is computed as the real S&P 500 index divided by the arithmetic mean real earnings over the previous 10 years. For example, the CAPE of 22.39 in December 2010 is the real S&P 500 index in December 2010 of 1277.22 divided by the average real earnings from December 2000 through November 2010. The CAPE of 23.35 in July 2011 is based on the average real earnings from July 2001 to December 2010 because reported earnings for first-quarter 2011 were not included in the July 25, 2011, analysis. If an S&P first-quarter 2011 estimate of $81.31 for trailing four-quarter reported earnings had been included in the analysis, the July 25, 2011, CAPE would have been reported as 23.10 rather than 23.35.


    Measuring Inflation

    Because earnings and prices are converted to current-period dollars in determining the CAPE, changes in inflation theoretically should not alter its long-term average. However, problems can arise if the method used to measure inflation changes over time. This has indeed been the case, as the Bureau of Labor Statistics frequently changes the manner in which the Consumer Price Index is determined.

    Two fairly recent methodological changes to the index have been especially significant. In January 1999, the Bureau of Labor Statistics began using a geometric mean formula in the calculation of most of the basic indexes. The second change took place over a period of years beginning in 1998, when the Bureau of Labor Statistics expanded its use of hedonic regression models for quality adjustments. [Editor’s note: Hedonic models estimate values for individual components that are bundled together.]

    According to the bureau, the changes removed biases that caused the Consumer Price Index to overstate the inflation rate. The report that served as the catalyst for the two previously noted changes came to the conclusion in December 1996 that the index was overstating the rate of inflation by 0.8 to 1.6 percentage points a year. The study’s central estimate was an overstatement of 1.1% per year.

    Although the best methodology for determining consumer inflation continues to be a hotly debated topic, most agree that the overall result of these recent changes is a lower Consumer Price Index. For example, research from the Bureau of Labor Statistics claims that the use of the geometric mean formula has by itself lowered the CPI measure of inflation by approximately 0.3%. There is also a popular investment website that claims an approximate 7% difference in the annual CPI inflation rate based on methodological changes over the last couple of decades, including the two changes previously mentioned.

    The problems that the changes in the measurement of the index create for the CAPE are twofold. First, there is the general “apples-to-oranges” problem as the construction of the index used to determine real earnings and real prices as inputs for the CAPE has changed numerous times since 1871, the first year in Shiller’s data set. Secondly, if one believes that the current methodology produces a lower estimate of inflation, then the current CAPE needs to be adjusted downward to make it comparable to earlier estimates.

    In determining the CAPE, reported earnings are adjusted for inflation using the Consumer Price Index, where real values reflect current-period purchasing power. Thus, any upward adjustment to the current-period Consumer Price Index would produce a series of higher real earnings and, therefore, a lower CAPE.

    SPECIAL OFFER: Get AAII membership FREE for 30 days!
    Get full access to AAII.com, including our market-beating Model Stock Portfolio, currently outperforming the S&P 500 by 2-to-1. Plus 60 stock screens based on the winning strategies of legendary investors like Warren Start your trial now and get immediate access to our market-beating Model Stock Portfolio (beating the S&P 500 2-to-1) plus 60 stock screens based on the strategies of legendary investors like Warren Buffett and Benjamin Graham. PLUS get unbiased investor education with our award-winning AAII Journal, our comprehensive ETF Guide and more – FREE for 30 days

    Accounting and Tax Issues

    Another problem faced by those making valuation judgments using the CAPE time series is that both accounting standards and corporate taxation policies have changed significantly over time. While Shiller’s data set begins in 1871, the first U.S. national accounting society was not formed until 1887. Thus, public accounting in the U.S. was still in its infancy in the late 1800s, and it should be considered questionable how useful these early earnings numbers are to any analysis that uses them as inputs.

    In the early 1900s, U.S. accounting practices typically focused on the presentation of the balance sheet. Balance sheets were drafted mainly to satisfy bankers who were making working capital loan decisions and who cared more about a company’s liquidity than its long-term profitability and solvency. The cash basis of accounting was a widely used means of financial reporting during this time period and it required that firms wait to recognize revenues and expenses until the corresponding cash flows actually occurred. Today, all businesses incorporated in the U.S. must make use of accrual accounting, where revenues and expenses are accounted for when they are incurred, rather than later when cash actually changes hands.

    Business practices in the U.S. began to change dramatically in the late 1920s. Bank credit deteriorated in response to the Great Depression, and numerous banks failed. Businesses began to seek financing directly from investors, and corporate stock issuance became a major source of financing. As investors began to replace bankers as the primary users of financial statements, the income statement began to take center stage.

    Other factors, such as the rise of income taxation and cost accounting, also shifted the focus to revenues and expenses. In the U.S., the corporate income tax dates back to the Corporation Tax Act of 1909, which instituted an excise tax on corporations based on their income. In 1913, the 16th Amendment to the Constitution made the income tax a permanent fixture of the U.S. tax system. The top corporate marginal tax rate was just 1% from 1909 through 1915 and then gradually rose to 19% in 1938–1939. Thus, corporate income either wasn’t taxed or was taxed at a comparatively low rate for the first 69 years of Shiller’s earnings data.

    Corporate taxes rose rapidly during the World War II and Korean War eras. The corporate tax rate on the highest taxable income bracket reached a peak of 52.8% in 1968–1969. The rate has since gradually declined and is at 35% for 2011. In the 1950s, revenue from the federal corporate income tax averaged about 5% of gross domestic product per year. Last decade, corporate tax revenue averaged about 2% of gross domestic product annually, and it is expected to be only about 1.3% in 2011.

    Historians usually trace cost accounting concepts in the U.S. back to the late 19th century and the Industrial Revolution. Academics claim, however, that it wasn’t until the 1940s that management accounting techniques began to be taught in the classroom. Activity-based management and costing and interdepartmental cost allocation coverage were substantially new changes in accounting textbooks during the late 1980s. Thus, what informed observers consider modern cost accounting practices were only in place for the last few decades of Shiller’s earnings data.

    The passage of the Securities Act of 1933 and the Securities and Exchange Act of 1934 ultimately granted authority to prescribe accounting methods to the newly established U.S. Securities and Exchange Commission (SEC) and required that financial statements filed with the SEC be certified by an independent public accountant. In 1938, the SEC delegated much of its authority to dictate accounting practices to the American Institute of Accountants and its Committee on Accounting Procedures. In 1939, the committee issued its first of 51 Accounting Research Bulletins.

    Due to criticism of the committee, the American Institute of Certified Public Accountants replaced it with the Accounting Principles Board in 1959. The board was designed to issue accounting opinions after it had considered previous research studies, and it issued its first of 31 opinions in 1962. In 1973, the Financial Accounting Standards Board (FASB) was formed and it has since issued 168 Statements. Effective July 1, 2009, the Accounting Standards Codification is considered the single source of authoritative U.S. generally accepted accounting principles (GAAP). The codification organizes the many pronouncements that constitute U.S. GAAP into a consistent, searchable database.

    The key point to be taken from this brief history of U.S. accounting and corporate taxation is that reported earnings from different time periods are not that comparable for the simple reason that accounting standards, accounting practices, and tax policies have changed considerably. And it certainly seems Greek philosopher Heraclitus’ model of the world, “nothing endures but change,” will fit the future. Accounting practice in the U.S. appears to be headed toward more fair value accounting standards (see next section). Accounting rule-makers are also trying to move U.S. GAAP and International Financial Reporting Standards (IFRS) closer together. IFRS are generally considered to be more principles-based and allow companies to use judgment while applying a set of guidelines.

    This discussion should lead one to question the assertion that the CAPE should be expected to mean-revert precisely to its long-term average of 16.41. How can anyone seriously believe that a high-quality comparable for the CAPE of any time period is its long-term average, given that many of the major factors affecting reported earnings are peculiar to specific time periods? Reported earnings from 1871 are not truly comparable to those in 1941, and both of those are not truly comparable to reported earnings in 2011. Thus, a very-long-term time series evaluation of any price-earnings ratio, including the CAPE, should be considered problematic.

    Fair Value Accounting

    The purpose of this section is twofold. First, it shows how a change in accounting standards can materially impact reported earnings. Second, it provides another reason why the comparison of the July 2011 CAPE to its long-term average presents an overly bearish estimate of the worth of U.S. equities.

    SFAS 157 Fair Value Measurements was issued in September 2006 by FASB and became effective for entities with fiscal years beginning after November 15, 2007. The greatest recent impact of this statement was on “available for sale” investment securities held by banks during the recent financial crisis: These securities must now be reported at fair value each accounting period. The recognition process requires adjustments to the value of these securities as they appear on the balance sheet. The adjustments, in turn, result in the recognition of unrealized gains and losses in reported earnings.

    Banks held a significant percentage of assets as investment securities at the beginning of the financial crisis—over $198 billion of mortgage-backed securities were held by large U.S. banks in July 2008. The crisis initially affected securities backed by low-quality subprime mortgages, but it ultimately adversely affected virtually the entire spectrum of non-Treasury fixed-income securities. Quite obviously, there were heightened levels of risk aversion, and some security markets were very illiquid at the peak of the crisis. Bank investment portfolios were clobbered, and the new fair value accounting laws required banks to include these losses in reported earnings.

    The timing of the huge unrealized losses in fourth-quarter 2008 matched almost perfectly the large downward move in reported earnings that occurred in the fourth quarter. Certainly the large write-down in the value of available-for-sale securities had a major negative impact on S&P 500 reported earnings.

    Furthermore, except for one week, banks have had net unrealized gains on available-for-sale securities since April 21, 2010. This seems to suggest that the huge losses at the height of the financial crisis are unlikely to recur, at least in the short-term, foreseeable future. Yet the CAPE will continue to reflect the impact of these huge unrealized losses for the 10 years following their occurrence.

    Figure 2 shows reported earnings per share and operating earnings per share for the S&P 500 from March 1999 to March 2011. Note how quickly reported earnings have recovered from the 2008 low.

    Summary and Conclusions

    By virtually anyone’s standards (including my own), Robert Shiller is a brilliant and accomplished economist. Likely due in no small part to Shiller’s literary successes, there are numerous investment companies and financial media firms that routinely refer to the CAPE as the “best” measure of equity valuation. This is unfortunate because some investors will respond to this rhetoric and act as if the CAPE always provides the best measure of the worth of equities. This isn’t true, and there will be times where the CAPE is actually a rather poor gauge of value—July 2011 being one of those times.

    Comparing the July 2011 CAPE to its long-term average suggests that U.S. equities are 42.3% overvalued. This article presents reasons why that analysis gives an overly bearish assessment of the true worth of U.S. equities. For July 2011, a price-earning ratio based on either trailing 12-month reported earnings or trailing 12-month operating earnings provides a much better measure of value.

    Data on the business cycle shows that the typical cycle is much shorter than the 10-year period over which real earnings are averaged to determine the CAPE. Because the CAPE is calculated with a moving average of real earnings that is too long, the July 2011 CAPE reflects reported earnings impacted by both the 2001 and 2007–2009 recessions. Thus, the July 2011 CAPE is using a downwardly biased estimate of “true” average real earnings.

    Data used to determine CAPE is adjusted to current-period dollars based on the U.S. Consumer Price Index. To make accurate time series comparisons using a data set that is approaching 141 years in length, but is adjusted for inflation, requires a consistent measure of inflation. Changes have frequently been made to the index, and most believe the current methodology provides a lower estimate of inflation than earlier methodologies. If so, average real earnings used to determine the July 2011 CAPE need to be adjusted upward to make them comparable to earlier estimates.

    The manner in which earnings are reported has changed significantly over time due to changes in accounting and tax policies. As a recent example, the move toward more fair value accounting standards resulted in security losses having a devastating effect on the reported earnings of financial institutions during the recent financial crisis. Yet that effect now appears to have been transitory. If an accounting item is deemed non-recurring, it is common practice in security analysis to ignore it when determining underlying earnings. But the CAPE continues to reflect the effect of non-recurring items for the 10 years that follow their initial recognition in reported earnings.

    As first used by Shiller in his book “Irrational Exuberance,” the CAPE was a very useful tool for showing that U.S. equities were extremely overvalued in the late 1990s. But the seemingly ubiquitous approach of comparing the CAPE to its long-term average to determine a precise worth for U.S. equities is a flawed form of analysis. Changes in earnings and inflation reporting and the vagaries of the business cycle will frequently doom this sort of approach to failure.

    Stephen E. Wilcox is a professor of finance at Minnesota State University, Mankato.


    Edward from PA posted over 5 years ago:

    Another "This time is different" argument. How about corporate earnings are currently based on record profit margins that will surely revert to the mean. Look out below stock market.

    G from MA posted over 5 years ago:

    This is an excellent analysis. Thankyou.

    G from MA posted over 5 years ago:

    Edward, I agree margins are very high and will mean revert however I do not think the author was trying to discredit Schiller or say this time is different but merely pointing out some flaws in the data used to arrive at his conclusion that the market is overvalued. The Fed Model would indicate the fair value P/E on the S&P 500 with the 10 year at 2.22% would be 35. Because rates are so artificially depressed I don't give that model any credence. All models have flaws and you need to understand what you are measuring and how it is being measured if you are using it to make decisions in your portfolio.

    C from RI posted over 5 years ago:

    Thank you Stephen for a well thought out critique of Shiller's CAPE-based spy valuation. Lots of excellent points raised that are worthy of consideration.

    What your post here does not assess though is the robust relationship between CAPE-P-E based valuation and subsequent 10 year returns
    on spy as espoused by John Hussman.


    The point here is that all models are 'wrong' but need to be assessed on their usefulness for intended purposes.

    You have shown CAPE-based P-E model to be 'wrong', John Hussman has shown it to be useful regardless.

    Jim from FL posted over 5 years ago:

    OK, I grant that the CAPE may have a few "minor" flaws. But they are in fact minor. The only one quantified here is the business cycle and that leads to the "corrected" conclusion that the market is 34.7% overvalued compared to 42.3%. So what, the fundamental conclusion that the market is significantly overvalued still stands.

    The author does not address the larger question of whether the "bubble" period from 1995 should be included in the computation of the long-term averages. Excluding that atypical period leads to a long-term average of the CAPE in the area of 14 making the current market even more overvalued relative to this norm.

    Shiller's CAPE is a breath of fresh air compared to the usual valuation arguments heard on CNBC or read in the media that incorrectly conclude that stocks are a bargain.

    John from FL posted over 5 years ago:

    This is a very thoughtful article. Something not discussed is which companies are included in this study of PE's. The constantly changing companies included in the S&P 500 make this 10-year smoothing PE not a good barometer of "today's" PE. How many companies were in the S&P in 2001 and are no longer in the S&P today? I think this is a good barometer to think about valuations but I would weigh trailing and consensus forward PE more heavily than this measurement. Just as we should take changes of accounting standards into account when reviewing the PE ratios, we need to take the composure of the index into account when deciding how relevant the measure is to today’s earnings reports for the companies in the index.

    David Merkel from MD posted over 5 years ago:

    You should probably revisit your thesis. I used to think that the CAPE10 was garbage, but after I did this analysis, I changed my mind:


    Underlying value in the market changes slowly, though prices may change rapidly for a variety of reasons. Thus we need longer-dated measures of valuation to filter the noise. This would include:

    CAPE10, and
    the Q-ratio.

    The market does not do well when these ratios are high, and tends to do well when they are low.

    Corporate profit margins are high now, but that series tends to mean revert. Current and forecast earnings make the market look cheap, but who can tell how long that will last? High profit margins invite competition, and quickly.

    Elio from IL posted over 5 years ago:

    "However, problems can arise if the method used to measure inflation changes over time."


    Price/Earning= P/E

    Price/CPI= Real Price
    Earning/CPI= Real Earning

    Real Price / Real Earnings = Real P/E

    Price/CPI /(divided) Earning/CPI =
    Price/CPI *(multiplied) CPI/Earning

    Therefore the two CPIs cancel out and we have


    Which says that inflation never get into the formula of the CAPE.

    Surprise suprise!!

    Elio from Uk posted over 5 years ago:

    "However, problems can arise if the method used to measure inflation changes over time."

    Price/Earning= P/E;
    Price/CPI= Real Price;
    Earning/CPI= Real Earning;
    Real Price / Real Earnings = Real P/E;
    But Price/CPI /(divided) Earning/CPI = Price/CPI *(multiplied) CPI/Earning; Therefore the two CPIs cancel out and we have Price/Earning=P/E; Which says that inflation never get into the formula of the CAPE. Surprise suprise!!

    Steve from MN posted over 5 years ago:

    Hello, all. I am the author of this article. I appreciate your comments and interest. My responses to some of your comments follow:

    Edward (and others): Note the article does not say anything about me being bullish or bearish. The point made is that the popular analysis that compares the CAPE to its long-term average currently produces an overly- bearish estimate of the worth of U.S. equities. I don't think U.S. equities are overvalued by 42.3%.

    G: Loved your second post: "All models have flaws." Yes, they do.

    C: Yes, like all valuation indicators with price in the numerator, "high" is bad and "low" is good. I've seen those 10-year rolling return graphs you mention and they are certainly visually appealing. But if you put CAPE as the explanatory variable in a regression with 10-year real returns as the dependent variable you would see there is a huge standard error on the coefficient estimate. Also, the point is that the July 2011 CAPE is artificially (for lack of a better word) high for reasons mentioned in the article.

    J: The reason that the business cycle problem was the only one quantified is that one needs to make assumptions to quantify the other two problems. The difference in valuation can be quite significant, however, depending on the assumption. Here is a link where a higher estimate of CPI inflation is used: http://www.saturna.com/navigator/20100802.shtml#

    John: Good point. The composition of the S&P 500 has changed considerably over time and that could possibly create comparison problems for the CAPE time series.

    David: I certainly don't think the CAPE is "garbage." As I stated in an earlier comment, "low" is better than "high" for valuation ratios and the CAPE is no different in that regard. What bothers me is the analysis that compares the CAPE to its long-term average. That is a flawed approach which currently provides an overly bearish view of the worth of U.S. equities. However, you can't rule out some future point in time where that sort of analysis would provide an overly bullish estimate for U.S. stocks. My point isn't that CAPE is flawed; rather, the point is that any time series analysis of CAPE has some serious limitations.

    Elio: You and I have exchanged e-mails and I hope I have answered your questions. If not, feel free to contact me again.

    I would like you all to know that I hold Shiller's entire body of work in highest regard and think he deserves a Nobel prize.

    Best wishes to you all, SW

    D. from MD posted over 5 years ago:

    You mentioned SFAS 157 Fair Value Measurements & “available for sale” investment securities.

    Isn't there another standard that handles things NOT available for sale? How much "discretion" do banks have to shift losses into the "not for sale" category, and how does that distort the value shown on the books?

    Stephen from MN posted over 5 years ago:

    Hi, D. My understanding is "available for sale" securities are those securities an institution intends to trade and they must be marked-to-market. The securities an institution plans to hold until maturity do not fall into this category. I have seen research that suggests that banks did use accounting discretion during the financial crisis to protect their capital positions. However, I am not an accountant nor do I personally do research in this area. If you are interested in this topic, I'm sure Google or JSTOR could be used to find some current references. I do know that the credit spreads on ABS and MBS have come down significantly post-crisis which suggests some of the apparent losses during the crisis might have been illusory. But you better check this out yourself. Good luck to you, SW

    Dominick from WA posted over 5 years ago:

    Interesting article and analysis on the CAPE. I personally am not too knowledgeable in this subject but nonetheless find it beneficial and intriguing.

    One question I have though is would it possibly be more accurate to measure the CAPE based on the median 10 yr real earnings instead of average 10 yr trailing earnings? You mentioned that the current CAPE reflects the negative effects of the most recent crash and the dot-com bubble, dragging the overall average significantly down. Perhaps a median figure instead of moving average could eliminate the effects of those outliers. Just a thought.


    Stephen from MN posted over 5 years ago:

    I'm not sure how well that would work, Dom. I understand your reasoning that choosing the median might avoid some of the problems associated with the mean, such as the problem caused by the large security losses that occured in a single year, 2008. But, from my perspective, the larger problem is with any time series analysis (comparing the present to the past) of CAPE. In my opinion, there have been too many changes to business practices, accounting standards, corporate taxation, and inflation reporting to believe comparisons over a 140+ years are truly valid. Take care, SW

    James from OH posted over 5 years ago:

    I read the article. It was extremely well researched and written. I can't quibble with anything that Professor Wilcox said.

    I also read the prior posted comments. They are detailed and well-thought out.

    However, it all strikes me as "much-ado-about-nothing"

    I downloaded the Shiller Excel file that has data back to 1871. I plotted the conventioinal PE Ratio and CAPE. For the 140 years, they almost always moved up and down together. As a natter if fact, their correlation is higher than 75%. They commonly peaked and bottomed at the same time. Sometimes the conventional PE was higher than the CAPE. Sometimes vice versa.

    I feel that fundamental analysis and technical analysis techniques are only valuble to the extent that they help us improve our timing as to when to buy and sell in order to increase our investing profits.

    With all do respect to Mr Shiller and Professor Wilcox, I, for one, don't see how the technical details of the differences between the conventional PE and CAPE or the weakness of either can help us do that.

    If you do, please speak up.

    Stephen from MN posted over 5 years ago:

    Hi, James. Thanks for your kind words about my article. I'm quite sure you are correct in stating that changes in conventional P/E and the CAPE are highly correlated. However, the point made in my article was that the popular analysis that compares the CAPE to its long-term average is currently (July 2011)providing an overly bearish assessment of the worth of U.S. equities.

    Here is a link to a Forbes article that briefly mentions my paper:


    As you can see, there is a graph of traditional P/E back to 1960. Note that it currently is significantly under its average since 1960 while (see my paper) the CAPE is currently significantly over its long-term average. Thus, the two measures are giving conflicting views of the worth of U.S. equities. Something is screwed up and I think it is the CAPE analysis. Take care, SW

    Jason from OH posted over 4 years ago:

    Great article, but I think it misses the point that today's earnings, the denominator, are blow-the-doors-off great due to productivitiy enhancements. Some of those higher margins may be sustainable, but it is more likely that some of the cost savings will be given back.

    You need to log in as a registered AAII user before commenting.
    Create an account

    Log In