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What Is the Meaning of CAPE? (Part 1)

CAPE - Cyclically adjusted price/earnings ratio. How has CAPE trended in the past? 

Michael Rawson, CFA 07 January, 2016 | 16:04
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The S&P 500 has returned a cumulative 250% from the bear-market bottom in March 2009 through November 2015. Six and a half years into the current bull market, investors are concerned that valuations may be getting rich. At first blush, one of the market’s more-popular valuation metrics seems to be corroborating these concerns. A more careful analysis indicates that this may be a false alarm, though not necessarily an all-clear.

One popular gauge of stock market valuation is the cyclically adjusted price/earnings ratio (CAPE) also known as the Shiller P/E. Yale University professor Robert Shiller popularized the measure in his book, Irrational Exuberance.1 The CAPE divides the level of an equity index by the reported earnings of its constituents averaged over the trailing 10 years. As of this writing, the CAPE for the S&P 500 is 26. This is well above its median value of 16 since 1881. Some fear this is a sign of a market bubble and portends lower future returns. But there are several fundamental and technical factors that currently support an above-average CAPE. While valuations may still be somewhat elevated after accounting for these issues, it is clear that the current situation is less dire than a quick glance at a single measure of valuation would lead one to believe.

151231 CAPE 01(EN)

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About Author

Michael Rawson, CFA  Michael Rawson, CFA is an ETF Analyst with Morningstar.

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