P/E vs S&P 500 (50 Years)
As promised, today brings us to the 4th in our series of charts:
P/E vs S&P500
click for larger chart
Mike Panzner, Rabo Securities
I'll get into the significance of what this means to the markets later, but for now, note where the P/E is over the median, and its impact on market performance.
Stocks, while not terribly expensive, can not be called cheap by historical measures. An even more discouraging mesure on this comes from Clifford Asness of AQR Capital Management (via Mark Hulbert). He calculated the P/E ratios for the entire market for the 1871-2003 period at ~11. That implies stocks are even less cheap (or more expensive) than the past 50 years implies.
Regardless of whether you take the 50 year or the 132 year perspective, the theory of Reversion to the Mean implies that stocks are likely to become cheaper so as P/Es revert. And one shouldn not expect the market to stop at fair value, as we have seen, the tendency is to overshoot on both sides.
Our 3 prior Charts:
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» P/E vs S from A Dash of Insight
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My understanding of stock market performance is that over the long run, the return on stocks should be equal to earnings plus dividends, plus a "valuation factor" that the market places on the two (P/E or P/BV). If P/E's are getting closer to the 50 year median, perhaps we can expect returns to more closely match earnings and dividend growth going forward (assuming stocks as an investment don't fall out out of favor with investors). I'm not sure one can use the 132 year median P/E of 11 as the reversion level, given the improved information around stocks since the Securties Exchange Act of 1934 - better information means investors are willing to pay more (higher P/E).
Posted by: Erik Alberts | Dec 30, 2005 11:17:08 AM
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