SP500 PE ratios

Of late, I noticed many talking about the markets being heated, getting over extended etc. The general notion seems to be - we have seen 6 years of market indices rising, so we must be getting close to a correction. Of course, we will have a correction sometime and those who keep saying there will be a correction will eventually be right, but a big market downturn at this point likely be caused by an ‘external’ event and not because stock prices have gone up.

The stock prices have gone up because the earnings have gone up. Corporations today generally speaking have solid balance sheets. Some companies even have insane amounts of cash or cash-equivalents on their balance sheets (e.g., Apple with $170B!). Most companies, at least the ones I 'm looking at, continue to innovate, and the interest rates around the world are at record low. While I usually don’t pay too much attention to the S&P 500 earnings etc., I was looking at it because its the SP500 PE that’s often used to cite how overvalued the current market is …

http://www.wsj.com/mdc/public/page/2_3021-peyield.html

So, per WSJ estimate tracking, we have as of 5/15/2015, the following numbers:


----------------------------------------
Index       TTM_PE   PE_yr_ago    PE_NTM
----------------------------------------
S&P 500	     21.47     18.04	   17.89
NASDAQ 100   22.83     21.30	   19.37
----------------------------------------

TTM_PE is PE based on trailing twelve months (TTM) earnings
PE_year_ago is just that, i.e., TTM PE at May 2014
PE_NTM is the forward PE based on expected earnings for the next twelve months.

Anirban

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On the other hand, the Schiller PE is quite high:

http://www.multpl.com/shiller-pe/

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Anirban,
The end of your post left me wondering, do you not feel a TTM PE on SP of 22.9 is not high?
I am pretty sure I have seen mungofitch post on MI board tables indicating the expected returns from such levels over 10 years to be extremely low, like 0-3%/year. I will try to find those.

Gator

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A tibit in the bottom of this post:

http://discussion.fool.com/1000-30440915.aspx

On the last graph, our earnings yield is below 5% now, this is using trend earnings as defined in post. The last sentence indicates 10 year forward returns from here are 1%/year.

We will need to beat the market and Saul has shown we certainly can, but by most means of looking at market valuation we are highly valued right now. I have not seen any claim otherwise. This can certainly persist for a long time, but good to keep in the back of our minds.

Gator

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The end of your post left me wondering, do you not feel a TTM PE on SP of 22.9 is not high?

If you are invested in the S&P 500 index, you might want to consider whether the index is fairly valued or not. I personally have not done that analysis nor do I care to. I have a portfolio of fewer than 20 stocks which I monitor. I care only to know whether my stocks are trading above or below my perceived view of their value.

I think that often people focus (worry) too much on what’s happening with the overall market when they should be paying attention to the companies in their portfolio. This assumes that these people are stock pickers and not an index fund investors.

Chris

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Of course that is true Chris, I agree!

I am fully invested and even leveraged just a bit with some short puts.

That said, the companies followed here, with the statistics they carry, would be more likely to rise over the long term in a market environment of undervaluation (say S&P 500 PE of 12 like in 2009), than they are likely to now. That should seem logical.

Rising and falling tides do move the boats.

No one here is an index investor, but there is no reason not to take note of these considerations

Gator

And, as is pointed out whenever Schiller PE is raised, much of this is due to changes in GAAP accounting standards.

This is just my opinion, obviously, and it may be a stupid one. But here it goes anyway:

No one here is an index investor, but there is no reason not to take note of these considerations

What I don’t like about these statements, or about the financial press in general (including a lot of company-specific press) is that it’s not actionable, at least not in any sensible way.

Let’s assume the market is optimistically valued. What are you going to do about that? Seriously. How is it going to affect your investing strategy? Are you going to go to cash? (Which people have been doing for years now out of fear of a market turn and incurred massive opportunity costs). Are you going to hedge? Are you going to change how you invest, potentially moving away from what works for you? Are you going to buy bonds at piddly interest rates instead of stocks? Are you going to decide not to buy that great company you just found because the market might be optimistically valued?

At the end of the day, I feel like these kinds of statements about the market, or that simply repeat the obvious tail risks faced by companies, don’t do anything but increase uncertainty and anxiety for investors (and that’s a bad thing, IMHO – emotions are our worst enemy). I don’t think anybody here believes they can predict the future, so we’ve already admitted to a healthy dose of uncertainty. We know there will be a bear market one of these days – so what? Nobody has any idea when it will show up, how long it will last, how bad it will be, how our individual companies will be impacted, or how much they’ll run up in the mean time (or if our portfolio will even look the same when the market does eventually turn). As far as our companies go, we know we can be wrong, and that’s why we maintain a portfolio of them instead of just one or two. So we’ve already taken all of this into account – obsessing over it to the point of second-guessing ourselves isn’t going to help our results, IMHO. There is no sure thing: there will always be doubt.

Personally, I completely ignore the financial press and the talking heads (and the Wall St. analysts, who are playing their own little game). I just don’t care what they have to say, whether it’s about the market or about a company I own. I care far more about what folks on this board think.

Just my 2 cents.

Neil

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Neil the idea of "actionable"vs “non actionable” was a revelation to me when the concept finally sunk in…It changed the way I invest, and what I worry about. So bravo on stressing that.

And I am an index investor. Timed. With part of my portfolio. Because I like to diversify not just with different stocks (tactics) but with whole investment approaches (strategy).
Indices, Saul type companies, companies 5 years away from profits. Not for myself but for family members I add the strategy of buy and hold index ETF to the mix. Investing a portion of capital using each strategy. Plus a small amount in non equities such as cash to cover short term living expenses and capitalize on opportunities .

Re bear markets- they can’t be predicted but the can be identified in time to reduce loses. The good thing about bear markets is that they make stocks of good companies lots cheaper. . But this is only useful if you have spare cash to buy them in the short window of opportunity. As the Japanese stock market and US Nasdaq point out, bear markets can last long time, often beyond an individual’s investment lifetime. Or as in the case of Russia 1918, forever.

Hi mauser96,

As the Japanese stock market and US Nasdaq point out, bear markets can last long time, often beyond an individual’s investment lifetime. Or as in the case of Russia 1918, forever.

The average bear market in America lasts 21 months (and that’s skewed up by the Great Depression). And the longest ever lasted 5 years, and that was 75 years ago. I highly recommend reading the book Markets Never Forget (But People Do) – it’s a quick, excellent read that provides a lot of insightful historical analysis of markets, analysts, and the financial press.

Neil

5 Likes

I think that often people focus (worry) too much on what’s happening with the overall market when they should be paying attention to the companies in their portfolio.

Wow, Chris, what words of wisdom. I agree totally.
Saul

Let’s assume the market is optimistically valued. What are you going to do about that? Seriously. How is it going to affect your investing strategy? Are you going to go to cash? (Which people have been doing for years now out of fear of a market turn and incurred massive opportunity costs). Are you going to hedge? Are you going to change how you invest, potentially moving away from what works for you? Are you going to buy bonds at piddly interest rates instead of stocks? Are you going to decide not to buy that great company you just found because the market might be optimistically valued?

At the end of the day, I feel like these kinds of statements about the market, or that simply repeat the obvious tail risks faced by companies, don’t do anything but increase uncertainty and anxiety for investors (and that’s a bad thing, IMHO – emotions are our worst enemy). I don’t think anybody here believes they can predict the future, so we’ve already admitted to a healthy dose of uncertainty. We know there will be a bear market one of these days – so what? Nobody has any idea when it will show up, how long it will last, how bad it will be, how our individual companies will be impacted, or how much they’ll run up in the mean time (or if our portfolio will even look the same when the market does eventually turn). As far as our companies go, we know we can be wrong, and that’s why we maintain a portfolio of them instead of just one or two. So we’ve already taken all of this into account – obsessing over it to the point of second-guessing ourselves isn’t going to help our results, IMHO. There is no sure thing: there will always be doubt.

Personally, I completely ignore the financial press and the talking heads (and the Wall St. analysts, who are playing their own little game). I just don’t care what they have to say, whether it’s about the market or about a company I own. I care far more about what folks on this board think.

Neil, Your posts have been getting more and more insightful. Another great post!
Saul

3 Likes

Let’s assume the market is optimistically valued. What are you going to do about that? Seriously. How is it going to affect your investing strategy? Are you going to go to cash? (Which people have been doing for years now out of fear of a market turn and incurred massive opportunity costs). Are you going to hedge? Are you going to change how you invest, potentially moving away from what works for you? Are you going to buy bonds at piddly interest rates instead of stocks? Are you going to decide not to buy that great company you just found because the market might be optimistically valued? - nevercontent (famous Fool)

“Far more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves.” – Peter Lynch (famous mutual fund manager)

Jeb
Short on anything to add

You can see all my holdings here: http://my.fool.com/profile/TMFJebbo/info.aspx

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I don’t assume the US stock market is inherently different from the Japanese stock market.The main difference being the bigger the bubble the deeper the collapse. No doubt Japanese pundits could point to past short bear markets too.

And if you go by US experience alone, the present bull market is old, not dead yet but maybe ready for Medicare.

Though I don’t think US stock markets cheap they may not be that much over priced either. Because the world, and the US in particular, is safer than it has been in much of the past. Present potential peace/prosperity disrupters are not in the same league as Hitler and Stalin. And because the prime alternative investments such as real estate and bonds don’t offer lots of competition.

I will make no attempt to forecast the timing of the end to the bull market because as you point out, generalities are mostly non actionable. But I will forecast with confidence that it will end. Eventually.

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I have posted this before:

http://stockcharts.com/freecharts/historical/marketindexes.h…

I am an inexperienced investor, but I don’t understand why so many people say this bull market has to end because it is 6 years old (or however old it is)?

Look at the chart periods 1942-1968 and 1984-1998. Not saying that is what will happen this time, but not many people seem to even be acknowledging the possibility that we might be entering a secular bull market.

Guess I’ll just keeping putting my money in good companies and see what what happens over the next 20 years…

Brian

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A lot of that depends on how you define a bull market
For instance from around 1966 to 1985 you could call it bull market because at the end of that almost 20 year period prices were higher. But iooking at other periods between those two , it seems more like a bear market. BYW secular bear markets do not always mean prices go down, just at they don’t go up much, don’t keep up with inflation or alternate investments.
Few think that bull and bear markets have a strict calendar timer on them.

If it is Secular Bull we are well into it. My completely WAG is that the present (cyclicall???) bull will last another couple of years. But I will not act on that WAG, instead reacting it events as they unfold.

Many on the Mechanical Investing board have pointed out that the data shows from these valuations historically,long term returns have been low. But there could be lots of peaks and valleys between , or this period could turn out to be different. I don’t believe that the history takes into account bank rescues,QE etc, public policies not present in the past. Which so far have mostly made the rich even richer but could eventually filter down to the general public.

Let’s assume the market is optimistically valued. What are you going to do about that?

The most rational thing to do would be to rotate into other asset classes (that might not be so optimistically valued). Not everyone has the financial resources to withstand a prolonged bear market (you might need the capital for a variety of reasons) which makes a portfolio of mixed asset types the most prudent choice.

tecmo

<http://stockcharts.com/freecharts/historical/marketindexes.h…

I am an inexperienced investor, but I don’t understand why so many people say this bull market has to end because it is 6 years old (or however old it is)? Look at the chart periods 1942-1968 and 1984-1998. Not saying that is what will happen this time, but not many people seem to even be acknowledging the possibility that we might be entering a secular bull market.

Great graph Brian! Thanks.
Saul

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I think Saul’s reposted link got cut off. Here’s Brian’s original link:
http://stockcharts.com/freecharts/historical/marketindexes.h…

D.

My approach to the possibility that the market might be over priced or that we might be ripe for a sudden drop is not to rotate in and out of any asset class.

I consider myself relatively risk adverse at least in comparison to others on this board but I plan to keep doing what I have always done, invest regularly in a combination of Saul type stocks, other TMF recs including some from II, and some from Tom E’s superstock list. Although in my 60s I have no interest in bonds or trying to find exactly the right mix of assets. I still work, love my job and don’t need the stock investments to live on. I know from past experience that I’m terrible at market timing. My plan is keep calm and keep investing, no matter what direction the overall market is heading. That has worked reasonably well for the last three decades and fantastically well since I joined TMF in 2006 and then finally found Saul.

Maybe I’ve just been drinking the kool aide but it has been a very pleasant and rewarding long strange trip!

David

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