# Mean revision and \$140 SP500 Earnings

I looked at the MSFT, APPL and GOOGL earnings and given their Index weighting, how anyone with a basic math skills assume the earnings are going to mean revert to \$140.

There is no point in using 10 year CAPE for Apple, MSFT, GOOGL, AMZN and FB. Together they account to what???

The only conclusion I could come to is, permabears are masquerading as mean revisionists.

• 10 years back Apple had \$150 B in revenue and now they have \$100 B in profits!!!
• 10 years back Google had \$38 B in revenue and now they have \$70 B in profits!!!
• 10 years back Microsoft had \$73 B in revenues and now they have \$71 B in profits!!!
âŚ

I hope everyone takes time to read the above slowly few times to let it sink why CAPE is useless.

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in the latest quarter their revenue is \$75 B + and profits \$20.64 B!!!

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I looked at the MSFT, APPL and GOOGL earnings and given their Index weighting, how anyone with a basic math skills assume the earnings are going to mean revert to \$140.

Where did \$140 come from? Oh I know, it came from you in post 269537.

What I do know is, future is unknown, unpredictable, there are variety of outcomes possible and in most of those scenarios SP500 earnings is going to be far higher than pandemic low of \$140. What that is going to be? IDK, but I dearly hope it is far better than 2020 economy.

https://www.yardeni.com/pub/yriearningsforecast.pdf

In this PDF did you notice that the numbers that added to \$139.76 were YRI vs. Consensus Forecasts

In post 269549 your number was corrected

FWIW, the pandemic low (rolling four quarters) was \$94.13, not \$140.

Sure enough: 11.88 + 17.83 + 32.98 + 31.44 = 94.13 (https://ycharts.com/indicators/sp_500_eps)

So who exactly are you arguing with?

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Love Kingâs Post.

Letâs consolidate AAPL/MSFT/GOOG/AMZN/FB into one massive company called BigTechCo.

-BigTechCo now has a market cap around \$9.2T and is about 23% of the S&P 500 Index.
-BigTechCo has net margins around 20% and ROE around 40%.
-BigTechCo sells at multiples of roughly 32x earnings, 6.7x sales and 13x book value.
-BigTechCo still seems to be growing around 15% per year, at least.

What if BigTechCo keeps growing at 12-14% annualized and grows per-share earnings 3x-4x from current levels over the next decade? Is BigTechCo a bubble in such a case?

Is BigTechCo turning the whole S&P500 into a bubble if BigTechCo goes from 23% of the index today to 30% of the Index a decade from now? Or is it plausible that BigTechCoâs growing influence has materially changed the net margins, revenue growth rates, and fair valuation multiples that we should all expect for the entire S&P 500 index?

Obviously, these big 5 cannot compound at such high rates forever or theyâd become larger than the world economy - I get that.

But what if the BigTechCo growth train still has another decade+ left in the tank?

Maybe todayâs S&P 500 valuation (2.8x sales, etc) isnât so crazy in such a scenario.

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Or is it plausible that BigTechCoâs growing influence has materially changed the net margins, revenue growth rates, and fair valuation multiples that we should all expect for the entire S&P 500 index?

I would say NO. I think 2022 will be the year of great divergence. You are going to see big tech, big cap companies expand multiples and other side of the spectrum, lot of companies that are growing without profitability are going to get punished severely.

In other words, Index performance will diverge vastly from average SP500 company performance. This is already happening on Nasdaq and SPY.

Right now, 120 companies in SP500 list that are 20% or more below from their 52 week high, whereas Index is pretty close to ATH. Likewise, there are 237 companies below 200 DMA.

The great divergence is happening already.

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The great divergence is happening already.

Agree. BigTechCo are nothing like previous large successful slow growing bureaucratic monoliths.

These are aggregation of small innovative decentralized startups running at incredible speeds.
They have global reach, access to the best ideas, talent and capital.

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I looked at the MSFT, APPL and GOOGL earnings and given their Index weighting, how anyone with a basic math skills assume the earnings are going to mean revert to \$140.
There is no point in using 10 year CAPE for Apple, MSFT, GOOGL, AMZN and FB. Together they account to what??..
I hope everyone takes time to read the above slowly few times to let it sink why CAPE is useless.

Together? Theyâre an anecdote.
You canât extrapolate from four or five companies to the rest of the market, even if theyâre big.

Telling a great story about a few very successful companies doesnât tell a story about the whole.
As you note, there is no point in using 10 year CAPE for Apple, MSFT, GOOGL, AMZN and FB, but conflating the two is in effect the core of your argument.
Are they growing faster than the economy? Sure. Theyâre doing great!
How? By taking revenue and profits from some other firms, which are probably also in the index.
Tell a different story about the revenue growth at Verizon and Cisco and Chevron and McDonalds, slow growers all,
and similarly extrapolate it to the whole market, and youâll get the opposite conclusionâbut it will be equally wrong.

If you want to talk about the sum of the profits of all public firms and where theyâre headed, you have to look at the whole set. And think about the limits on the whole set.
To believe that the aggregate sales of all public companies can exceed the growth rate of the economy,
or that profits can grow faster than sales without limit, is (sorry) just plain innumeracy.
You can slice up a pie as many ways as you like, but the pieces canât be bigger than the whole.

Hereâs the key point:
For the set of all companies over time, sales canât grow faster than the economy, and profits canât grow faster than sales.
I hope everyone takes time to read the above slowly few times to let it sink in.

So, over time, aggregate profit growth will very very closely resemble aggregate economic growth.
Sometimes tax rates are a bit lower for a while or the economy a bit stronger and corporate profits will be a bigger piece of the economic pie for a while, and sometimes the reverse.
But we know that profits will never exceed sales, even if you wait a thousand years.

SoâŚwhatâs the hard cap on the real profit growth of the broad index over time? The real growth rate of the economy.
Itâs not a hard figure to find. Nor a hard figure to extrapolate, give or take a percent.
It sure ainât 10% a year.
Aggregate profits for the S&P 500 have risen inflation + 2.23%/year in the last fifty years.
(the rest of the real total return came from dividends and multiple expansion)
Note the remarkable similarity to the typical figures in this image
https://s3-us-west-2.amazonaws.com/courses-images/wp-contentâŚ

An interesting side not, not really on point:
Take the set of all public companies on a given day. Watch what happens to them thereafter. What has been their historical profit growth rate?
About 2% less than GDP growth in the same stretch, typically, in the 20th century.
Thatâs because theyâre displaced by new companies on average at about that rateâtheir share of total sales falls.
Any fixed set of companies typically grows, in aggregate, quite a bit more slowly than the economy theyâre embedded in.
The new firms that are meaningfully large frequently go public, so you have to buy them to even keep up with GDP.

Jim

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The S+P500, as a curated & constantly changing set of firms that are not close to representative of the entire US economy can certainly grow faster than GDP as a whole, thatâs not even arguable.

Whether or not it will is a different story.

The question is not the historical growth rate of past SP500 constituents, many of which are no longer in the index, gone BK, discovered as frauds, or have been merged out of existence, but the future rate of current members.

People keep trying to say Op margins will âmean revert,â any day now, theyâve been saying it over and over again for years, when nobody really knows what the mean should be, we just donât have enough data.
Profit margins of todayâs firms have very little in common with the index members marginsâ of 1970.

CAPE is useless as a valuation measure and always has been. It would have kept you out of the market almost the entirety of the 2000s. It would have told you to âbuyâ in Fall 2008 and then sell again a month later.

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There are many fallacies in the argumentâŚ for exâŚ

To believe that the aggregate sales of all public companies can exceed the growth rate of the economy

We are talking about an index of top 500 companies and not all companies. Many of the arguments are nothing new, they are debunked as false.

A simple exercise of tabulating SP500 companies total earnings in \$\$\$ for 20, 30 years and in the next column to-be CAPE value would show you, why CAPE is not working.

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people keep trying to say Op margins will âmean revert,â any day now, theyâve been saying it over and
over again for years, when nobody really knows what the mean should be, we just donât have enough data.

Piffle. Thereâs plenty we know without any doubt whatsoever.
Net profit margins will be less than 100% forever.
Therefore, over time, profits canât grow faster than the economy in which the companies operate.

In the US, net profit margins are in the rough vicinity of 11% lately.
If theyâre still over 0% and less that 100% of sales ten thousand years from now, whatâs the maximum annualized rate of divergence you are suggesting we plan on?
For example, a rise to 85% net profit margins would come out as a rise of 0.02%/year.
I think we can ignore that.

CAPE is useless as a valuation measure and always has been. It would have kept you out of the market almost the entirety of the 2000s.
It would have told you to âbuyâ in Fall 2008 and then sell again a month later.

Flat wrong. Please, donât do this. CAPE is a market valuation tool, not a market timing tool.
There is a huge correlation between CAPE and average forward returns on the 5-10 year time frame.
Some people try to build timing models out of it, but that doesnât work, for obvious reasons.
Failure of using a ruler as a hammer doesnât mean the ruler is wrong.

The highest 7-year forward return observed since 1995 during the 10% of starting dates that CAPE was highest was inflation -1.2%/year (smoothed end dates).
The lowest 7-year forward starting the cheapest 10% of the time based on traditional CAPE has been inflation + 13.8%.
Nope, no predictive power at allâŚsay it loudly enough and maybe somebody will buy it!
But not me. Donât let the actual data hit your butt on your way out.

Jim

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As revenues and earnings for the S&P 500 have roared above-trend over the past decade or so, the MSCI All Country World ex-U.S. Index has done the opposite.

Back-of-the-envelope estimates: while the S&P 500 grew per share revenues roughly 4% annualized, the ex-US Index grew per share revenues about 1% annualized (in local currency).

S&P 500 net margins expanded from about 9% to about 14% leading to roughly 8-9% annualized EPS growth. But ex-US net margins rose only marginally from about 8% to 9%, leading to roughly 2% annualized EPS growth.

After inflation, EPS for the S&P 500 might be up say 80% over the past decade, while the ex-US Index may actually be a tad lower in inflation-adjusted terms.

When you consider how many of the worldâs great compounding machines of the past 10-15 years (in technology and healthcare especially) are listed in the S&P 500 and not in the ex-US indexâŚthe disparity in EPS growth over the past 10 or so years seems pretty obvious.

The multi-trillion dollar question of course is whether these trends continue over the next decade or whether the pendulum swings the opposite way. (Remember when emerging markets crushed the S&P 500 around the Dot.com bubble until and well into the mid 2000s) Can existing big tech and up-and-coming firms keep the scale tilted in favor of those damn Yankees much longer? Or are we going to see a lost decade in the S&P 500 and the torch pass to firms listed in other countries?

Mr. Market seems to be pricing in a continuation of the S&P 500âs dominance over ex-US counterparts with ratios of price to earnings, sales, book all about twice as high for the S&P 500 as the ex-US indexâs multiples.

Either way, the next 10 years will be very fascinating.

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For the set of all companies over time, sales canât grow faster than the economy, and profits canât grow faster than sales.
I hope everyone takes time to read the above slowly few times to let it sink in.

This is inaccurate.

The economy is not just publicly traded companies.
There are millions of private companies and city, state and federal governments.

âŚand yes profits can grow faster than sales.

So many wierd assertions and fundamental flaws.

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CAPE is useless as a valuation measure and always has been. It would have kept you out of the market almost the entirety of the 2000s. It would have told you to âbuyâ in Fall 2008 and then sell again a month later.

CAPE has its problems and has its uses. Donât use CAPE for market timing. CAPE does OK for 10 year predictions. For some people, 10-year predictions are useless.
September 2008: CAPE was 20, SP500 annualized real return over the next 10 years was 10%, bonds G10 real return was 2%.
March 2009: CAPE was 13, SP500 annualized real return over the next 10 years was 14%, bonds G10 real return was 1%.

I doubt CAPE will ever be above 80. A ceiling of about 40 looks reasonable today, but that depends on interest rates, inflation, and earnings growth.
Average CAPE over the last 30 years was about 25. CAPE going from 40 to 25 over 10 years is -5% p.a.
real total return = nominal growth - inflation + dividend yield + annualized change in valuation multiple = 6% - 2% + 1% - 5% = 0%

how anyone with a basic math skills assume the earnings are going to mean revert to \$140âŚ I hope everyone takes time to read the above slowly few times to let it sink why CAPE is useless.

Look at E10 (10 year average of S&P 500 real earnings): E10 declined from 47 in 1982 to 42 in 1992, then increased to 121 now. A triple in 30 years is about 4% annual real growth. If this growth continues, E10 in 2032 will be about 210 (including 2% inflation).

If interest rates and inflation stay low, then CAPE could stay around 40 for ten years.
If interest rates revert to their 30-year average, then CAPE could return to 25.

S&P500 P/E Ratio vs Interest Rates, November 2021
âWhen the t-bond rate is 1.5%, your alternatives are already shredded. Stocks look expensive relative to history, but not relative to bonds.â
https://currentmarketvaluation.com/posts/2021/11/SP500PE-vs-âŚ

Valuation, December 31, 1999
âFor those of you thinking multiples are going to 80 timesâŚgood luck. You too are betting on a very low probability event.â
https://discussion.fool.com/valuation-11732567.aspx?sort=whole#1âŚ

One of The Great Bubbles of Financial History, January 5, 2021
âI will go on record that I donât think this is anywhere near like 1999 or 1929, despite what the CAPE ratio says. Are there pockets of excess? Absolutely, Iâm not blind. But a 70% decline in the major averages? Sorry, I donât see it.â
https://theirrelevantinvestor.com/2021/01/05/one-of-the-greaâŚ

The latest Shiller CAPE download includes a chart of âExcess CAPE Yield (ECY) and Subsequent 10 Year Annualized Excess Returnsâ. ECY is now about 3%, and that has been followed by Subsequent 10 Year Annualized Excess Returns from 0% to 10%. (Excess Returns are returns above the real returns of 10 year Treasuries.)
Shillerâs New Metric Suggests Opportunity Lies Overseas, Dec 10, 2020
âRight now, ECY is saying investors should expect reasonable returns from the stock market in the 2020s.â
https://moneyandmarkets.com/robert-shiller-excess-cape-yieldâŚ

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