Small cap growth index P.E Ratio extreme

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Mr.BB
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Small cap growth index P.E Ratio extreme

Post by Mr.BB » Wed May 17, 2017 8:57 am

I just looked at Vanguards Small Cap Growth Index Fund (VISGX) as of 4/30/17 it's P.E ratio is listed at 121.2!
I don't see much value of investing any money in that sector right now. That is rich!

I also checked Mid Cap Growth Index fund as of 4/30/17 it's P.E is listed at 40.7!
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JoMoney
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Re: Small cap growth index P.E Ratio extreme

Post by JoMoney » Wed May 17, 2017 9:22 am

Maybe it's less an issue with price going up, as the earnings being in a lull. The Price/Book is actually lower now than it was ten years ago, and the dividend yield has doubled.

Vanguard Small-Cap Growth Index Fund
As of December 31, 2006

P/E 27.6x
P/B 3.5x
Yield 0.4%

As of December 31, 2016
P/E 47.7x
P/B 3.4x
Yield 1.0%

...and yet the small-cap value index fund is trading at a higher book multiple, and lower yield than it was a decade ago.
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Re: Small cap growth index P.E Ratio extreme

Post by Mr.BB » Wed May 17, 2017 9:50 am

JoMoney wrote:Maybe it's less an issue with price going up, as the earnings being in a lull. The Price/Book is actually lower now than it was ten years ago, and the dividend yield has doubled.

Vanguard Small-Cap Growth Index Fund
As of December 31, 2006

P/E 27.6x
P/B 3.5x
Yield 0.4%

As of December 31, 2016
P/E 47.7x
P/B 3.4x
Yield 1.0%

...and yet the small-cap value index fund is trading at a higher book multiple, and lower yield than it was a decade ago.


All I know is 121 PE is rich at any time.
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JoMoney
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Re: Small cap growth index P.E Ratio extreme

Post by JoMoney » Wed May 17, 2017 9:59 am

Mr.BB wrote:...
All I know is 121 PE is rich at any time.

In May of 2009, the S&P 500 PE was 123.73
In hindsight, that would have been a really good time to buy...

I think you're likely better off ignoring such things though, just get your allocation right and make regular contributions over time.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham

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nedsaid
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Re: Small cap growth index P.E Ratio extreme

Post by nedsaid » Wed May 17, 2017 10:09 am

JoMoney wrote:
Mr.BB wrote:...
All I know is 121 PE is rich at any time.

In May of 2009, the S&P 500 PE was 123.73
In hindsight, that would have been a really good time to buy...

I think you're likely better off ignoring such things though, just get your allocation right and make regular contributions over time.


This is the problem with P/E ratios, you need to look under the hood and see what is behind the numbers. High P/E ratios can happen when earnings are depressed and the market anticipates that earnings will soon rebound. We also see this phenomenon with cyclical or economically sensitive stocks, the old saying is to buy these when P/E ratios are high and sell when P/E ratios are low. This is counterintuitive to conventional wisdom.
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Re: Small cap growth index P.E Ratio extreme

Post by lack_ey » Wed May 17, 2017 11:06 am

Earnings are kind of squirrely figures, especially when looking at individual stocks or relatively narrow parts of the market. With funds you have to be careful of what's driving earnings, which earnings you're talking about (past, future), how negative earnings in some companies are accounted for in the overall average, etc. There's a lot of noise, hence the frequent usage of smoothed figures if looking at historical information.

For what it's worth, Morningstar lists price/prospective earnings at 25.14 as of the end of April, and JPMorgan's Guide to the Markets does a bottom-up calculation using analyst consensus 12-month forward earnings and provides some recent historical context:

Image
https://am.jpmorgan.com/us/en/asset-man ... he-markets

Not that any forward estimates are that accurate, and they're probably systemically biased, but better perhaps than taking a recent historical figure.

Probably expensive but not hair-on-fire?

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JoMoney
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Re: Small cap growth index P.E Ratio extreme

Post by JoMoney » Wed May 17, 2017 11:30 am

lack_ey wrote:...Not that any forward estimates are that accurate, and they're probably systemically biased, but better perhaps than taking a recent historical figure...

In that JP Morgan Guide To The Markets, they include a scatter chart showing the forward estimated P/E as having an R^2 of .42 with subsequent 5 year returns. Not great, but I think it's interesting how comparable that is to using historical earnings, according to a chart in Vanguard's paper https://personal.vanguard.com/pdf/s338.pdf
trailing P/E 10 (CAPE) had an R^2 of .43 with subsequent 10 year returns
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Re: Small cap growth index P.E Ratio extreme

Post by lack_ey » Wed May 17, 2017 12:53 pm

JoMoney wrote:
lack_ey wrote:...Not that any forward estimates are that accurate, and they're probably systemically biased, but better perhaps than taking a recent historical figure...

In that JP Morgan Guide To The Markets, they include a scatter chart showing the forward estimated P/E as having an R^2 of .42 with subsequent 5 year returns. Not great, but I think it's interesting how comparable that is to using historical earnings, according to a chart in Vanguard's paper https://personal.vanguard.com/pdf/s338.pdf
trailing P/E 10 (CAPE) had an R^2 of .43 with subsequent 10 year returns

I'm not comfortable discussing both numbers because of the methodological concerns and then the significantly different parameters and time periods covered. JPM is doing a linear fit of overlapping 5-year nominal returns against forward estimated P/E over 1992-present. Vanguard did a linear fit of overlapping 10-year real returns against P/E10 over 1926-2012. Both are for stock market returns, not a narrow and valuation-sorted category like small growth.

One issue with both is that they seem to honestly use P/E with earnings in the denominator and then report the linear fit. A linear mapping of P/E and returns implies the difference between P/Es of 5 and 10 is equivalent to the difference between P/Es of 30 and 35. I don't care which way fits the data better—that doesn't make any damn sense. Well, it's possible for Vanguard that they did some other kind of curve fitting as "regression" without a qualifier leaves open a possibility of something else.

Obviously with the longer-term forward return evaluation period you get higher R^2 as you're averaging out and reducing the impact of noise. So the 5-year vs. 10-year is not a fair comparison. Then you have the big differences from having 1926-1992 or not. And real vs. nominal, which is usually somewhat important but here I guess it's one of the least of our concerns. In any case, that's enough of that.

The point I was originally just making is that unsmoothed recent historical earnings can be misleading, which is the same one you were after by citing 2009 (though that was a lot about write-downs).

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Re: Small cap growth index P.E Ratio extreme

Post by NiceUnparticularMan » Wed May 17, 2017 1:04 pm

lack_ey wrote:Probably expensive but not hair-on-fire?


One thing that leaps out to me is that all the money supposedly pouring into SV has not collapsed the relative valueyness of SV (a concern of some). If anything the opposite has happened. That suggests that perhaps that purported flow of funds really is not very significant, to the extent it is happening at all.

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Re: Small cap growth index P.E Ratio extreme

Post by lack_ey » Wed May 17, 2017 1:16 pm

NiceUnparticularMan wrote:
lack_ey wrote:Probably expensive but not hair-on-fire?


One thing that leaps out to me is that all the money supposedly pouring into SV has not collapsed the relative valueyness of SV (a concern of some). If anything the opposite has happened. That suggests that perhaps that purported flow of funds really is not very significant, to the extent it is happening at all.

Well, about ten years ago value spreads were pretty tight and quant investing was all the rage. So what you see in a comparison to a 15-year average is mostly just coming down from that, so this may be a little bit misleading.

On the other hand, I've noted repeatedly what you'd stated there, that the narrative about factor/smart beta fund flows and attention crowding out these trades doesn't appear to be particularly empirically supported, by this data and others. Either that or it is happening combined with a simultaneous worsening of future value stock prospects relative to growth stocks (i.e. the spread should be much wider than usual, but flows are pushing them to be average instead). Maybe it's the case for defensive/low vol. But if it's the case for that, others aren't getting the memo about dividend stocks, so who knows.

All this is hard to know and harder to market time.

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Re: Small cap growth index P.E Ratio extreme

Post by NiceUnparticularMan » Wed May 17, 2017 1:21 pm

lack_ey wrote: Either that or it is happening combined with a simultaneous worsening of future value stock prospects relative to growth stocks (i.e. the spread should be much wider than usual, but flows are pushing them to be average instead).


Obviously that is a possibility, but I think I will just remain a bit skeptical about the real magnitude of any such effect.

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Re: Small cap growth index P.E Ratio extreme

Post by lack_ey » Wed May 17, 2017 1:30 pm

NiceUnparticularMan wrote:
lack_ey wrote: Either that or it is happening combined with a simultaneous worsening of future value stock prospects relative to growth stocks (i.e. the spread should be much wider than usual, but flows are pushing them to be average instead).


Obviously that is a possibility, but I think I will just remain a bit skeptical about the real magnitude of any such effect.

Yes, especially given total assets/flows from these sources relative to others. The simpler explanation is probably more likely to be correct.

There are cases where funds may be moving the needle significantly, like in junior gold miners (one ETF alone was hitting 20% of ownership of some companies), but more broadly we don't seem to be there yet.

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Re: Small cap growth index P.E Ratio extreme

Post by Mr.BB » Wed May 17, 2017 2:11 pm

JoMoney wrote:
Mr.BB wrote:...
All I know is 121 PE is rich at any time.

In May of 2009, the S&P 500 PE was 123.73
In hindsight, that would have been a really good time to buy...

I think you're likely better off ignoring such things though, just get your allocation right and make regular contributions over time.


I don't think it should be ignored. The reason it was so high in 2009 was that the businesses had such lousy earnings. So even depressed prices pumped up the P.E.
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Re: Small cap growth index P.E Ratio extreme

Post by garlandwhizzer » Wed May 17, 2017 4:03 pm

Jo Money wrote;

Vanguard Small-Cap Growth Index Fund
As of December 31, 2006
P/E 27.6x
P/B 3.5x
Yield 0.4%

As of December 31, 2016
P/E 47.7x
P/B 3.4x
Yield 1.0%


Actually I just the Vanguard website and its SCG index has a PE of 121.2 and a PB of 3.3. The SCV index has a PE of 48.6 and a PB of 1.9. I find the PE of both these SC funds mystifying. Perhaps this is a result of negative earnings among some SC firms or other accounting anomalies. It may not be a true indicator of the facts on the ground. Nonetheless it is worrisome for those deeply committed to small stocks. The PE of the SC index which includes both is V and G is 68, more than two and a half times what their LC index, 24. These disparities are so great that SC may be more vulnerable than LC going forward. They certainly were today. If macroeconomic factors like increasing and robust economic growth plus modest inflation is our future, SC's fundamentals will improve and all may be well. If however we remain stuck for years to come in the low growth/low inflation mode it is entirely possible that SC, both SCV and SCG, will underperform LC going forward. When you fall from a high valuation perch there's a long way down to basement in a market decline.

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JoMoney
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Re: Small cap growth index P.E Ratio extreme

Post by JoMoney » Wed May 17, 2017 6:40 pm

Mr.BB wrote:
JoMoney wrote:
Mr.BB wrote:...
All I know is 121 PE is rich at any time.

In May of 2009, the S&P 500 PE was 123.73
In hindsight, that would have been a really good time to buy...

I think you're likely better off ignoring such things though, just get your allocation right and make regular contributions over time.


I don't think it should be ignored. The reason it was so high in 2009 was that the businesses had such lousy earnings. So even depressed prices pumped up the P.E.

That was exactly my point in my initial reply, by other measures (like P/B, and yield) the price multiple hasn't grown exceptionally large relative to the past decade, the price multiple actually fell on those numbers, but earnings have not been good in recent years.
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Svensk Anga
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Re: Small cap growth index P.E Ratio extreme

Post by Svensk Anga » Thu May 18, 2017 7:29 am

I think there is a bug in Vanguard's calculation of these PE's. I have been tracking PE of several index funds monthly for a while (Bernstein's suggestion to be aware of valuation drift) and the latest on VG small cap funds are clearly outliers. (New data comes out mid-month.)

The mid month values have been, as reported in March, April, May, for earnings as of the end of the previous month:

Small cap index: 33.0, 34.9, 66.8
Small cap growth: 52.9, 62.8, 121.2
Small cap value: 25.3, 25.5, 48.6

There has been a long line of PE's similar to the first two in each series above.

There is some escalation of PE's in the mid-cap indexes, but nothing like the small cap:

mid cap: 29.1, 31.2, 32.0
MCG: 38.5, 40.0, 40.7
MCV: 23.9, 26.2, 27.0

Small cap prices have not recently doubled. The mid-caps' PE and general good economy suggest there is no earnings recession. I think the latest numbers are bogus.

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Re: Small cap growth index P.E Ratio extreme

Post by Mr.BB » Thu May 18, 2017 8:37 am

Svensk Anga wrote:I think there is a bug in Vanguard's calculation of these PE's. I have been tracking PE of several index funds monthly for a while (Bernstein's suggestion to be aware of valuation drift) and the latest on VG small cap funds are clearly outliers. (New data comes out mid-month.)

The mid month values have been, as reported in March, April, May, for earnings as of the end of the previous month:

Small cap index: 33.0, 34.9, 66.8
Small cap growth: 52.9, 62.8, 121.2
Small cap value: 25.3, 25.5, 48.6

There has been a long line of PE's similar to the first two in each series above.

There is some escalation of PE's in the mid-cap indexes, but nothing like the small cap:

mid cap: 29.1, 31.2, 32.0
MCG: 38.5, 40.0, 40.7
MCV: 23.9, 26.2, 27.0

Small cap prices have not recently doubled. The mid-caps' PE and general good economy suggest there is no earnings recession. I think the latest numbers are bogus.


You may be right. I almost fell out of my chair when I saw that number. I could see the mid cap growth index being around 40. the only time I"ve seen numbers like that were on individual stocks, never a fund. If correct Vanguard needs to start spending some of the in-flow of cash they have been receiving from investors and shore up there infrastructure (people & technology).
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Re: Small cap growth index P.E Ratio extreme

Post by alex_686 » Thu May 18, 2017 9:02 am

Mr.BB wrote:You may be right. I almost fell out of my chair when I saw that number. I could see the mid cap growth index being around 40. the only time I"ve seen numbers like that were on individual stocks, never a fund. If correct Vanguard needs to start spending some of the in-flow of cash they have been receiving from investors and shore up there infrastructure (people & technology).


No, that is not going to help. I will point you the MSCI US Small Cap Growth Index.
https://www.msci.com/documents/10199/cb ... 51e9329288

Its P/E ratio is 114.80 but its forward P/E ratio is 32.15. P/E ratios for indexes tend to be tricky. They are backwards looking and stale. Earnings numbers can be as old as 15 months. Forward earnings have a much better history. However estimating future earnings is subjective and the SEC does not like funds to use subjective estimates in their client presentation. So we are stuck with the out of date values.

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Re: Small cap growth index P.E Ratio extreme

Post by Mr.BB » Thu May 18, 2017 9:43 am

alex_686 wrote:
Mr.BB wrote:You may be right. I almost fell out of my chair when I saw that number. I could see the mid cap growth index being around 40. the only time I"ve seen numbers like that were on individual stocks, never a fund. If correct Vanguard needs to start spending some of the in-flow of cash they have been receiving from investors and shore up there infrastructure (people & technology).


No, that is not going to help. I will point you the MSCI US Small Cap Growth Index.
https://www.msci.com/documents/10199/cb ... 51e9329288

Its P/E ratio is 114.80 but its forward P/E ratio is 32.15. P/E ratios for indexes tend to be tricky. They are backwards looking and stale. Earnings numbers can be as old as 15 months. Forward earnings have a much better history. However estimating future earnings is subjective and the SEC does not like funds to use subjective estimates in their client presentation. So we are stuck with the out of date values.

+1
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Re: Small cap growth index P.E Ratio extreme

Post by NibbanaBanana » Thu May 18, 2017 9:47 am

alex_686 wrote:
Mr.BB wrote:You may be right. I almost fell out of my chair when I saw that number. I could see the mid cap growth index being around 40. the only time I"ve seen numbers like that were on individual stocks, never a fund. If correct Vanguard needs to start spending some of the in-flow of cash they have been receiving from investors and shore up there infrastructure (people & technology).


No, that is not going to help. I will point you the MSCI US Small Cap Growth Index.
https://www.msci.com/documents/10199/cb ... 51e9329288

Its P/E ratio is 114.80 but its forward P/E ratio is 32.15. P/E ratios for indexes tend to be tricky. They are backwards looking and stale. Earnings numbers can be as old as 15 months. Forward earnings have a much better history. However estimating future earnings is subjective and the SEC does not like funds to use subjective estimates in their client presentation. So we are stuck with the out of date values.


I would say that earnings estimates are almost always overly optimistic. Me thinks that the market is too high priced but there exists no successful exit and reentry strategy. So I will stay the course and take my lumps.

On the other hand, I refuse to buy amazon at 180 times earnings and will let that wonderful opportunity go to others. The company I own, Walmart, seems to be getting in on the online action too and is only selling at 17x. And pays a nice divy of 2.72%.

I did also purchase ADP and MMM recently, at market multiples of 25 and above market divies of around 235 basis points. We'll see...........

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Re: Small cap growth index P.E Ratio extreme

Post by garlandwhizzer » Thu May 18, 2017 12:22 pm

Forward earnings estimates are created by analysts who profit from sales of stocks and therefore they always tend to overstate what reality turns out to be. PE ratios can also be manipulated by accounting gimmicks to make them appear to be reasonable when in fact they aren't. The whole question of EBITDA versus GAAP allows PE ratios look palatable especially if EBITDA earnings are then projected with maximum optimism into future earnings. This is a big part of the reason why there are so many disparate PEs for the same index by different observers. Vanguard uses reported GAAP earnings, past not projected future, and they tend to be lower than many others. If a small cap company makes a huge one time capital expenditure or realizes a one time huge quarterly loss for example, it may more than wipe out their quarterly earnings producing negative earnings. I suspect that the wide variance in Vanguard's SC PE ratios is due at least partly to such accounting irregularities. IMHO however, no matter how you cut it, US equities especially in the SC space are richly priced. I don't believe there's any way to get around that objectively but I also don't believe that we're in bubble territory like in 1999. The problem is: what are the alternatives to investing in richly price stock? In the past bonds offered handsome returns plus safety but now the handsome return is out of the picture for a decade or more. Bonds are also richly priced as is real estate in my view due to persistently low mortgage rates which allowed qualified buyers to get into the market at historically low rates. This in turn bid up the price of real estate to levels that make it quite difficult for millennials to enter the market especially if they are already weighed down with college loan debt. In short there are no great screaming buys anywhere in the current environment. We're stuck with things as they are but that doesn't change the principles of investing. As Bogle says, "Invest we must," and this is as true now as ever.

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Re: Small cap growth index P.E Ratio extreme

Post by alex_686 » Thu May 18, 2017 1:01 pm

NibbanaBanana wrote:I would say that earnings estimates are almost always overly optimistic. Me thinks that the market is too high priced but there exists no successful exit and reentry strategy. So I will stay the course and take my lumps.


and


garlandwhizzer wrote:Forward earnings estimates are created by analysts who profit from sales of stocks and therefore they always tend to overstate what reality turns out to be.


You have a choice. One option is to use backwards looking stale values. This has low to no predictive value. The other option is forward looking which gives decent predictive value. Yes, forward earnings tend to be consistently moderately optimistic. But not widely optimistic and the error seems to be consistent. In short, while not perfect, it is usable.


garlandwhizzer wrote:PE ratios can also be manipulated by accounting gimmicks to make them appear to be reasonable when in fact they aren't. The whole question of EBITDA versus GAAP allows PE ratios look palatable especially if EBITDA earnings are then projected with maximum optimism into future earnings. This is a big part of the reason why there are so many disparate PEs for the same index by different observers. ... I suspect that the wide variance in Vanguard's SC PE ratios is due at least partly to such accounting irregularities.


Shillers CAPE ratio seems to do a decent job in correcting for that. The other better option is to dig into the annual reports and generate your own forward estimates but that would require you to become a active investor.

garlandwhizzer wrote:IMHO however, no matter how you cut it, US equities especially in the SC space are richly priced. I don't believe there's any way to get around that objectively but I also don't believe that we're in bubble territory like in 1999. ... Bonds are also richly priced ... In short there are no great screaming buys anywhere in the current environment.


I am not sure if you are right here. Maybe bonds are not richly priced. Rather we may be in a period of low investment returns. If that is true than the price of stocks is fairly priced according to the forward PE ratio. Maybe not a bubble, maybe only secular stagnation.

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Svensk Anga
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Re: Small cap growth index P.E Ratio extreme

Post by Svensk Anga » Thu May 18, 2017 2:44 pm

Small Cap's PE is up 17 standard deviations from the prior 16-month average.
SCG is up 13 SD's
SCV is up 16 SD's

These moves are way too big to be real.

Mid cap's PE moved 3 SD's
MCG is up 3 SD's
MCV is up 3 SD's
VTSAX is up 2.6 SD's
S&P500 is up 1.5 SD

VG says the data is as of 4/30. How many companies on a calendar year fiscal year get their earnings reports out within a month of quarter end? How many are on a different fiscal year? So how much new data is really in that E calculation? It cannot be that the full compliment of small caps have reported and so the non-reporters would have dampened the change. I wonder if the E in this PE isn't also a 4-quarter roll, which would further dampen variability. If it is not, someone will have to make adjustments to extrapolate full year earnings from potentially seasonally variable quarterly earnings.

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Re: Small cap growth index P.E Ratio extreme

Post by garlandwhizzer » Thu May 18, 2017 5:58 pm

alex_666 wrote about using trailing versus estimated PEs as predictors of future performance:

You have a choice. One option is to use backwards looking stale values. This has low to no predictive value. The other option is forward looking which gives decent predictive value.


Actually Joachim Clement, CFA did a study based on backtesting for the CFA institute that came to the opposite conclusion. His article can be seen at https://blogs.cfainstitute.org/investor/2016/07/12/dumb-alpha-trailing-or-forward-earnings/

His conclusion is that trailing PE has greater predictive power than future estimated PE by a considerable margin not only in the US but also in the Eurozone, Britain, and Japan. His final conclusion is that forward PE estimates are "useless" to use his own word. Not only does forward estimated PE overestimate reality by 10% on average but there is a wide dispersion in their errors. Direct quote:

Forward earnings are, on average, about 10% higher than subsequently realized earnings. However, this excess of optimism is not stable over time or across stocks. Paul Hribar and John McInnis show that analyst overoptimism rises when investor sentiment is buoyant — particularly for growth stocks with hard-to-estimate future earnings. And recent research by Ulrike Malmendier and Devin Shanthikumar demonstrates that while analysts on average are overly optimistic, those affiliated with an underwriter of a company’s securities tend to be strategically overoptimistic and thus systematically distort their forecasts.


PE of any type is not a perfect predictor of future performance of value stocks but my personal preference is that stodgy old Vanguard does it the least misleading way, trailing GAAP earnings, which while not a perfect predictor is less subject to optimistic manipulation by those benefiting from equity sales.

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nedsaid
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Re: Small cap growth index P.E Ratio extreme

Post by nedsaid » Fri May 19, 2017 7:02 pm

garlandwhizzer wrote:Forward earnings estimates are created by analysts who profit from sales of stocks and therefore they always tend to overstate what reality turns out to be. PE ratios can also be manipulated by accounting gimmicks to make them appear to be reasonable when in fact they aren't. The whole question of EBITDA versus GAAP allows PE ratios look palatable especially if EBITDA earnings are then projected with maximum optimism into future earnings. This is a big part of the reason why there are so many disparate PEs for the same index by different observers. Vanguard uses reported GAAP earnings, past not projected future, and they tend to be lower than many others. If a small cap company makes a huge one time capital expenditure or realizes a one time huge quarterly loss for example, it may more than wipe out their quarterly earnings producing negative earnings. I suspect that the wide variance in Vanguard's SC PE ratios is due at least partly to such accounting irregularities. IMHO however, no matter how you cut it, US equities especially in the SC space are richly priced. I don't believe there's any way to get around that objectively but I also don't believe that we're in bubble territory like in 1999. The problem is: what are the alternatives to investing in richly price stock? In the past bonds offered handsome returns plus safety but now the handsome return is out of the picture for a decade or more. Bonds are also richly priced as is real estate in my view due to persistently low mortgage rates which allowed qualified buyers to get into the market at historically low rates. This in turn bid up the price of real estate to levels that make it quite difficult for millennials to enter the market especially if they are already weighed down with college loan debt. In short there are no great screaming buys anywhere in the current environment. We're stuck with things as they are but that doesn't change the principles of investing. As Bogle says, "Invest we must," and this is as true now as ever.

Garland Whizzer


Garland, one possible answer is to shift some funds from US Stocks to International Stocks were valuations are more reasonable. Emerging Markets have looked particularly cheap. I have been doing some very modest shifts in my own portfolio.

My thoughts are that when you have to resort to EBITDA and Pro Forma earnings, these are gimmicks to hide either that management made some big boo boos or that earnings are just not that hot to begin with. The most reliable P/E's would be based on past earnings. I look at forward P/E's because the markets look ahead and we should too. But as you said, analysts tend to be too optimistic with earnings projections. But that is what we have. The numbers are slippery, even earnings.

Though bonds are expensive, they are far less volatile than stocks. At some point, if stock valuations get to be ridiculous, you hold your nose and sell some stocks to buy bonds. I would say that stock valuations are stretched but not irrationally so, a big reason being very low interest rates. No reason to panic here but if you haven't rebalanced yet, this might be a good opportunity.
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Re: Small cap growth index P.E Ratio extreme

Post by garlandwhizzer » Fri May 19, 2017 8:23 pm

nedsaid wrote:
Garland, one possible answer is to shift some funds from US Stocks to International Stocks were valuations are more reasonable. Emerging Markets have looked particularly cheap. I have been doing some very modest shifts in my own portfolio.


I'm with you on that one, nedsaid, and have made similar modest shifts in my own portfolio. Now that both of us have done that, I'm beginning to worry about the "nedsaid effect" (whatever you buy drops in value and whatever you sell goes up after the sale). The nedsaid effect also works in my case and I'm concerned now that both of us have done this we'll get hit with a double whammy.

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Re: Small cap growth index P.E Ratio extreme

Post by nedsaid » Fri May 19, 2017 9:34 pm

Garland, we will see. The "Nedsaid effect" happens in part because of the momentum effect in the stock market. Similar to Newtonian physics, what is in motion tends to stay in motion, or in stock market terms, what has been doing well tends to continue doing well. Another way of stating this is that there is a bandwagon effect. The problem is that investors jump off the bandwagon too early.

That is a problem when you are Value oriented. You want to sell what has gotten more expensive to buy what is less expensive. It is what I described above, jumping off the bandwagon too early. Value investors have to be patient as Value is often associated with negative momentum. You might buy something at a really good price and then see it drop to an even better price. You just have to be very patient or you will give up on the Value effect before it has a chance to work. We take comfort in that markets have entropy and eventually the momentum effect will stop.

This is why I am patient and why I make changes to my portfolio slowly. One way of looking at this is to realize that an individual has a fiduciary duty to himself or herself. We rebalance and keep an eye on valuations because we seek to keep a good balance between risk and return. A portfolio that is not rebalanced will tend to get more and more stock heavy over time. Rebalancing will likely cut returns a bit but hopefully will also reduce our risk profile. I don't like to rebalance but I look at it as a necessary part of portfolio maintenance. We sometimes have to do things that don't feel good at the time. Discipline is necessary but not fun.

An example of this were my two timber REITs, Plum Creek and Weyerhauser. I held both stocks for a long time and indeed were like old friends. But when the two REITs merged, Weyerhauser, the surviving company became a bigger position in my portfolio than with what I was comfortable holding. I held my nose and I sold a portion of my stake in the combined company even though I didn't like it one bit. I had a duty to myself not to have a concentrated position in one stock.

And yes, Weyerhauser continued to do well after I sold part of it. Applied Materials was another such story, the stock did so well that I sold off 1/3 of my stake. It was getting to be too large of a holding. Again, Applied Materials continued to do well after I trimmed it. The dreaded "Nedsaid effect" kicked in yet again. But still, I did the equivalent of eating my spinach.
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Re: Small cap growth index P.E Ratio extreme

Post by nedsaid » Sat May 20, 2017 3:15 pm

lack_ey wrote:Earnings are kind of squirrely figures, especially when looking at individual stocks or relatively narrow parts of the market. With funds you have to be careful of what's driving earnings, which earnings you're talking about (past, future), how negative earnings in some companies are accounted for in the overall average, etc. There's a lot of noise, hence the frequent usage of smoothed figures if looking at historical information.

For what it's worth, Morningstar lists price/prospective earnings at 25.14 as of the end of April, and JPMorgan's Guide to the Markets does a bottom-up calculation using analyst consensus 12-month forward earnings and provides some recent historical context:

Image
https://am.jpmorgan.com/us/en/asset-man ... he-markets

Not that any forward estimates are that accurate, and they're probably systemically biased, but better perhaps than taking a recent historical figure.

Probably expensive but not hair-on-fire?


It looks like the US Stock Market has a P/E ratio that is about 20% higher than the 15 year average. Not too surprising given that in the aftermath of the financial crisis interest rates dropped a lot too. Also take into consideration that the big drop in interest rates took place about 8 years ago. So this isn't too surprising.
A fool and his money are good for business.

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