The Rise and Fall of Shiller PE/10

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Lbill
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The Rise and Fall of Shiller PE/10

Post by Lbill » Sun May 06, 2012 12:46 pm

Looking at the chart of the monthly values for the Shiller PE/10 (CAPE) metric, one can see that every previous peak in PE/10 was eventually followed by a low in the single digits many years later, before the index started back up on a sustainable path. Here they are:

6/1901....25.24
12/1920....4.78
18 yrs, 6 mos.

9/1929....32.56
6/1932.....5.57
2 yrs., 9 mos.

2/1937....22.24
4/1942....8.54
4 yrs, 2 mos.

1/1966....24.06
7/1982.....6.64
16 yrs, 6 mos

And the Mother of All Peaks
12/1999....44.20

Lowest value so far:
3/2009.....13.32
9 yrs, 6 mos

Current value:
5/4/2012....22.83

Is this time different, or will we eventually see another single-digit low in PE/10 before it heads back up over a multi-year period again????

PE/10 data obtained here: http://www.multpl.com/
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Re: The Rise and Fall of Shiller PE/10

Post by am » Sun May 06, 2012 12:59 pm

Have their been any exceptions to this trend over the last 100 years or so? I guess the right thing would be to minimize allocation to stocks until we get back to the single digits. But I may be close to retirement when this happens.

But what if it is different this time? Usually when this is said, it is not different this time- thinking back to crazy valuations in the late 90s.

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Re: The Rise and Fall of Shiller PE/10

Post by SimpleGift » Sun May 06, 2012 2:07 pm

Lbill wrote:Is this time different, or will we eventually see another single-digit low in PE/10 before it heads back up over a multi-year period again????
Mean reversion or random walk in the Shiller PE/10 ratio? Do I have to decide — or can I just buy-hold-rebalance and forget about the long-term meanders of stock market valuations? :wink:
Cordially, Todd

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Re: The Rise and Fall of Shiller PE/10

Post by Cut-Throat » Sun May 06, 2012 3:40 pm

Lbill wrote:Is this time different, or will we eventually see another single-digit low in PE/10 before it heads back up over a multi-year period again????
If you were waiting for a single-digit low PE/10 in 2009 and did not invest, and still have your money in a mattress, my guess is that you missed the boat and will probably die before the 'perfect' time to invest comes around.

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Re: The Rise and Fall of Shiller PE/10

Post by awval999 » Sun May 06, 2012 3:45 pm

I believe the answer to why we didn't get a PE/10 <10 during the trough of our recession is due to the fact that nowadays companies retain more of their earnings (capital appreciation) and give off less dividends due to tax code incentives. I believe, solely in fact, that this reason is why the PE/10 is not the die on the cross metric that some think it is.

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Re: The Rise and Fall of Shiller PE/10

Post by tfb » Sun May 06, 2012 3:47 pm

Lbill wrote:Is this time different, or will we eventually see another single-digit low in PE/10 before it heads back up over a multi-year period again????
Let's just say we will. It could be cause by P dropping or E catching up, or both. If P drops, you would be better off waiting. If P goes up and E goes up faster, when that day finally comes, it will still do you no good. So, worry about price, more than PE/10.
Last edited by tfb on Sun May 06, 2012 4:22 pm, edited 1 time in total.
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Re: The Rise and Fall of Shiller PE/10

Post by baw703916 » Sun May 06, 2012 4:07 pm

If all these fluctuations in PE/10 make you nervous, you could invest in gold, whose PE/10 never varies.
Most of my posts assume no behavioral errors.

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Re: The Rise and Fall of Shiller PE/10

Post by dumbmoney » Sun May 06, 2012 4:58 pm

If the market fails to hit a single digit PE10, it would be a Black Swan. Better buy some stocks as insurance. :-)
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Re: The Rise and Fall of Shiller PE/10

Post by nisiprius » Sun May 06, 2012 5:56 pm

Lbill wrote:Every previous peak in PE/10 was eventually followed by a low in the single digits many years later
For over a century, every President elected in a year ending in 0 died in office. 1860, 1880, 1900, 1920, 1940, 1960. Obviously young whippersnappers never heard of or don't remember this fact, but Kennedy's assassination brought it to the forefront and made it seem pretty darn impressive.
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Re: The Rise and Fall of Shiller PE/10

Post by Xanadu » Sun May 06, 2012 6:23 pm

baw703916 wrote:If all these fluctuations in PE/10 make you nervous, you could invest in gold, whose PE/10 never varies.
and what would that be, infinity?

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Re: The Rise and Fall of Shiller PE/10

Post by nisiprius » Sun May 06, 2012 6:34 pm

Xanadu wrote:
baw703916 wrote:If all these fluctuations in PE/10 make you nervous, you could invest in gold, whose PE/10 never varies.
and what would that be, infinity?
Yes, but a good active manager can add some extra aleph.
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Re: The Rise and Fall of Shiller PE/10

Post by Xanadu » Sun May 06, 2012 6:50 pm

nisiprius wrote:
Xanadu wrote:
baw703916 wrote:If all these fluctuations in PE/10 make you nervous, you could invest in gold, whose PE/10 never varies.
and what would that be, infinity?
Yes, but a good active manager can add some extra aleph.
anything more than aleph-one is too expensive for me :D

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Re: The Rise and Fall of Shiller PE/10

Post by William Million » Sun May 06, 2012 6:51 pm

I hate to bring up Glassman/Hassett of Dow 36,000 travesty. However, it might be true that we are more heavily invested in the stock market now than in past cycles, thanks to a democratization of the market through 401ks and discount brokers, and that valuations will be higher going forward than they were in the past. However, it's just a theory and does not move me to change my allocation.

Also, probably not a good idea to use PE10 in isolation from other valuation metrics. PE10 is ok but not always the best indicator of overvalued and undervalued markets.

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Re: The Rise and Fall of Shiller PE/10

Post by baw703916 » Sun May 06, 2012 7:26 pm

Xanadu wrote:
nisiprius wrote:
Xanadu wrote:
baw703916 wrote:If all these fluctuations in PE/10 make you nervous, you could invest in gold, whose PE/10 never varies.
and what would that be, infinity?
Yes, but a good active manager can add some extra aleph.
anything more than aleph-one is too expensive for me :D
That may be an argument for investing in GLD, rather than physical gold. The expense ratio lets you sidestep the singularity. At an E/R of 0.4%, that gives a PE/10 of -25 -- which is certainly less than 10.
Most of my posts assume no behavioral errors.

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Re: The Rise and Fall of Shiller PE/10

Post by Lbill » Sun May 06, 2012 7:30 pm

I was interested in how money invested in the S&P500 fared over these periods from the peak of PE/10 until the single digit low was finally hit. These are real (inflation adjusted) returns. Suffice it to say you would have been a lot better off with the money under the mattress:

6/1901 - 12/1920: -68.9% (real)
9/1929 - 6/1932: -80.65% (real)
2/1937 - 4/1942: -62.1% (real)
1/1966 - 7/1982: -61.7% (real)
12/1999 - 3/2009: -58.1% (real)

12/1999 - 5/2012: -29.7% (real)

Unfortunately, it is the buy-and-hold, long term equity investors who are hurt the most by these multi-decade trips from the peak to the valley. We're still in the midst of the current one, PE/10 is getting closer to nosebleed territory again, and investors in LC equities are still in the hole by 30% in real money over the last 12+ years.
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Re: The Rise and Fall of Shiller PE/10

Post by Tuxx » Sun May 06, 2012 7:44 pm

It is impossible to figure out P/Es until mark to market accounting is reinstated.

When you can mark "assets" such as; CDOs, CDSs, ABCDs, LCDSs, etc, etc that are down 80%+ at par, we are living in a economic fantasy world.

At last count (Jun 2011) these "assets" totaled over $700T and are rising at a pace of $107T a quarter.
Note: This is for only 10 countries.

http://www.bis.org/statistics/derstats.htm

World GDP is $63T - these "assets" are over 11xs world GDP.

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Re: The Rise and Fall of Shiller PE/10

Post by SimpleGift » Sun May 06, 2012 8:19 pm

Lbill wrote:Unfortunately, it is the buy-and-hold, long term equity investors who are hurt the most by these multi-decade trips from the peak to the valley.
But, Lbill, how about the all the multi-decade trips from the valleys to the peaks? Don't we buy-hold-rebalance investors deserve a look at those too? Or does your database only consist of the unfavorable periods? :wink:
Cordially, Todd

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Re: The Rise and Fall of Shiller PE/10

Post by William Million » Sun May 06, 2012 8:28 pm

Lbill wrote:I was interested in how money invested in the S&P500 fared over these periods from the peak of PE/10 until the single digit low was finally hit. These are real (inflation adjusted) returns. Suffice it to say you would have been a lot better off with the money under the mattress:

6/1901 - 12/1920: -68.9% (real)
9/1929 - 6/1932: -80.65% (real)
2/1937 - 4/1942: -62.1% (real)
1/1966 - 7/1982: -61.7% (real)
12/1999 - 3/2009: -58.1% (real)

12/1999 - 5/2012: -29.7% (real)

Unfortunately, it is the buy-and-hold, long term equity investors who are hurt the most by these multi-decade trips from the peak to the valley. We're still in the midst of the current one, PE/10 is getting closer to nosebleed territory again, and investors in LC equities are still in the hole by 30% in real money over the last 12+ years.
Actually buy-and-hold investors have done quite well, especially if they re-balance. No doubt that there are periods when you don't make much in equities that, in extreme cases, last up to 20 years. However, you never know when the next bull will take off.

In any event, I'll take buy-and-hold with re-balancing over maket-timing, based on a limited valuation tool such as PE10, any day of the week and twice on Sunday.

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Re: The Rise and Fall of Shiller PE/10

Post by awval999 » Sun May 06, 2012 8:43 pm

Like I said; people give too much deference to this PE/10.

Why not PE/5?
Or PE/20?
And none of the believers have a good response to the factual statement that dividend yields are down while companies retain their earnings in order to appreciate the stock price, due to the fact that capital gains taxation is more favored in our tax code than dividends. Watch this continue to accelerate if the current tax cuts expire at the end of 2012 without being renewed.

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Re: The Rise and Fall of Shiller PE/10

Post by RenoJay » Sun May 06, 2012 8:51 pm

awval999 wrote:Like I said; people give too much deference to this PE/10.

Why not PE/5?
Or PE/20?
And none of the believers have a good response to the factual statement that dividend yields are down while companies retain their earnings in order to appreciate the stock price, due to the fact that capital gains taxation is more favored in our tax code than dividends. Watch this continue to accelerate if the current tax cuts expire at the end of 2012 without being renewed.
I agree with this. Also, I think you'd need to overlay interest rates on top of this. In a high interest rate environment, you'd need a very low P/E to make stocks attractive relative to bonds. In a low interest rate environment, stocks are generally more appealing (given that their dividends today approximate the 10 year bond and that they have upside potential.) Not saying the original poster is wrong, but I can guarantee Jeremy Siegle would counter this argument. For every bear there's usually a bull, and vica versa.

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Re: The Rise and Fall of Shiller PE/10

Post by Nathan Drake » Sun May 06, 2012 10:40 pm

RenoJay wrote:
awval999 wrote:Like I said; people give too much deference to this PE/10.

Why not PE/5?
Or PE/20?
And none of the believers have a good response to the factual statement that dividend yields are down while companies retain their earnings in order to appreciate the stock price, due to the fact that capital gains taxation is more favored in our tax code than dividends. Watch this continue to accelerate if the current tax cuts expire at the end of 2012 without being renewed.
I agree with this. Also, I think you'd need to overlay interest rates on top of this. In a high interest rate environment, you'd need a very low P/E to make stocks attractive relative to bonds. In a low interest rate environment, stocks are generally more appealing (given that their dividends today approximate the 10 year bond and that they have upside potential.) Not saying the original poster is wrong, but I can guarantee Jeremy Siegle would counter this argument. For every bear there's usually a bull, and vica versa.

Yup. Exactly.

So there are a few factors at play here:

1) Lessened effect on dividends, meaning more of the earnings growth should be constituted in the pricing component through share buybacks and retained capital

2) Extremely low-interest rate environment should demand an even higher P/E. The trailing one year P/E is significantly below it's historical norm. Relative to interest rates, this may mean that equities are significantly undervalued.

3) Earnings have gone through two of the largest recessions in history this past decade. Recessions are typical, but not the extent we have seen recently. In the years ahead, growth may be slow, but I would not expect earnings to be quite as radically volatile as this past decade has shown.

Everyone has their opinion on whether stocks are attractively valued or not, but given the above circumstances I'd say they most certainly are. Also helps that we've had over a decade of flat share price growth. Mean reversion will inevitably come into play.

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Re: The Rise and Fall of Shiller PE/10

Post by Quidnam » Sun May 06, 2012 10:54 pm

nisiprius wrote:For over a century, every President elected in a year ending in 0 died in office. 1860, 1880, 1900, 1920, 1940, 1960. Obviously young whippersnappers never heard of or don't remember this fact, but Kennedy's assassination brought it to the forefront and made it seem pretty darn impressive.
Also quite interesting to note that post-1980, Reagan avoided becoming part of this list only very narrowly. And of course the data from 2000 remain inconclusive, as Mr. Gore didn't manage to spend any time in office... :happy

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Re: The Rise and Fall of Shiller PE/10

Post by grayfox » Mon May 07, 2012 2:13 am

Lbill wrote:Looking at the chart of the monthly values for the Shiller PE/10 (CAPE) metric, one can see that every previous peak in PE/10 was eventually followed by a low in the single digits many years later, before the index started back up on a sustainable path. Here they are:

...


Is this time different, or will we eventually see another single-digit low in PE/10 before it heads back up over a multi-year period again????

PE/10 data obtained here: http://www.multpl.com/
P/E10 is a good valuation metric, but not the way you are (ab)using it.

Corporate Earnings Fluctuate :idea:
Taking a multi-year moving average of real earnings helps smooth out the up and down in earnings due to the business cycle. You only have to look at a chart of annual earnings of S&P500 to see that earnings drop 50% or even 90% during recessions.

Chart of S&P500 Earnings
http://i55.tinypic.com/2evu9uq.jpg
(the green line is one-year earnings, E1. the blue-dotted line is E10.)

When calculating P/E, we really want to use "permanent earnings". Let's say that, in a simple world, earnings are $100 during good years and $50 during recessions, and recessions happen one year out of five. So the earnings stream is 100, 100, 100, 100, 50. When calculating P/E, it would make sense to use the average over 5 years for E which is $90, rather than $100 and $50. (See Ben Graham's Intelligent Investor.) The real world is a bit more complicated than this simple world, because earnings are fluctuating every year, recessions occur randomly and unpredictably, and there is also a real growth trend.

But regardless, the basic principle applies and E10 can serve as (one) proxy for "permanent earnings". It's not the only measure of permanent earnings and not necessarily the best.

Suppose permanent earnings are $50 and you pay $1,400. That is an earnings yield of 3.6%. If earnings kept up with inflation and there was no real growth, that investment would return about 3.6% p.a.. If there was 1% real growth, it would add to the return, so 4.6% p.a. Not a constant 4.6% every year, but averaged over multiple years

So the usefulness of P/E10, or specifically E10/P which is the earnings yield, is that it forecasts the rate of return. High earnings yield forecasts high returns. Low earnings yield forecasts low returns. Similar to a bond's yield, but with less certainty.

Where you go off the tracks :oops:
But what you are trying to do is forecast P/E10 based on the past time series. You see a pattern that implies a law that single-digit P/E10 must follow high P/E10. Then there us some hand-waving about mean reversion of P/E10.

Good luck with that.

The average P/E10 from 1881 to present is 16.42.
That doesn't mean that P/E10 must mean revert to 16.42.

Unfortunately, there is no mean that it must revert to. P/E10 can be whatever the market decides it should be. Right now it's 22. In five years, the market may think that 28 is right, or 18 or 8. P/E10 depends on what real interest rates are, and what equity risk premium the market demands at any given time.

These things all depend on economic situation like GDP growth forecasts, expected inflation rate, employment level, corporate profit margins, the money supply, the Fed, monetary policy, fiscal policy, budget deficits, trade imbalance, politics, etc. In short, the current state of the world and everyone's outlook for the future. Not knowable.

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Re: The Rise and Fall of Shiller PE/10

Post by cjking » Mon May 07, 2012 2:56 am

Grayfox saved me a lot of time by giving his answer first.

So this is just reinforcement.

I agree there is no obligation on PE10 to hit single digits, or reach any level. It's just a number that tells you how much return you can expect on a dollar invested at current prices. And even then, only on average!

Having said that, the "q" ratio relative to its own history has generally said the same thing about valuations as PE10 relative to its history, and the "q" ratio is required to mean-revert.

Regardless, equities can be overvalued and yet still be the most attractive asset class. So PE10 should be used to gauge degree of attractiveness relative to other asset classes, if you want a variable asset allocation. Counting on it to mean-revert, within an acceptable time-frame, or at all, is not the way to use it.

The comment about PE10 versus PE5 or PE20 is a straw man arguement. PE5 and PE20 will work better than PE1 for the same reason PE10 does. I've always assumed that the choice of "10" was arbitrary. I doubt that Shiller actually claimed "10" was better than "9" or "11". Even if "10" won some backtesting competition, I suspect it would only be slightly ahead of several other numbers.

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Re: The Rise and Fall of Shiller PE/10

Post by William Million » Mon May 07, 2012 4:51 am

Not sure where this nutty cult of PE10 sprung up within our rational Bogleheads forum. Seem a few posters won't let go of it.

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Re: The Rise and Fall of Shiller PE/10

Post by Leesbro63 » Mon May 07, 2012 6:42 am

nisiprius wrote:
Lbill wrote:Every previous peak in PE/10 was eventually followed by a low in the single digits many years later
For over a century, every President elected in a year ending in 0 died in office. 1860, 1880, 1900, 1920, 1940, 1960. Obviously young whippersnappers never heard of or don't remember this fact, but Kennedy's assassination brought it to the forefront and made it seem pretty darn impressive.
Until Reagan survived his brush with the dreaded 0 year death syndrome. And Bush2's full eight years totally ended the "always happens" syndrome.

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Re: The Rise and Fall of Shiller PE/10

Post by Random Musings » Mon May 07, 2012 9:52 am

Tuxx wrote:It is impossible to figure out P/Es until mark to market accounting is reinstated.

When you can mark "assets" such as; CDOs, CDSs, ABCDs, LCDSs, etc, etc that are down 80%+ at par, we are living in a economic fantasy world.

At last count (Jun 2011) these "assets" totaled over $700T and are rising at a pace of $107T a quarter.
Note: This is for only 10 countries.

http://www.bis.org/statistics/derstats.htm

World GDP is $63T - these "assets" are over 11xs world GDP.
Easy problem to solve. Close your eyes, click your heels twice and ........ :oops:

Or just keep trying to reinflate over and over......

RM
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Re: The Rise and Fall of Shiller PE/10

Post by Lbill » Mon May 07, 2012 10:04 am

I realized I hadn't accounted for dividends in calculating the returns of the S&P over these periods of declining PE/10. If I did it right, here are the total returns (including dividends). Returns are real (inflation adjusted) over the entire period, not annual returns:

6/1901 - 12/1920: +2.4%
9/1929 - 6/1932: -72.1%
2/1937 - 4/1942: -43.7%
1/1966 - 7/1982: -22.9%
12/1999 - 3/2009: -47.0%

Dividends help, but it's still pretty clear that these downcycles in PE/10 are associated with some pretty significant real equity losses, or at best no real gains. It makes a difference when these periods occur in an investor's lifecycle. Sequence of returns has a different impact for early accumulators vs. late accumulators and retirees. For accumulators with a 30-40 year horizon, the best time to have started investing regular amounts would have been at the beginning of these downcycles in 1902, 1930, 1937, 1966, or (hopefully) 2000. They were able to buy shares at lower prices and benefited from the up-cycles that eventually followed (we assume that will eventually happen for the accumulators who started in 2000 too). But the losers were those who were within 10-15 years of retirement and those who were already retired and starting to draw down their portfolios. The pre-retirees got hit when their portfolios were larger and during their peak earning and contribution years. Retirees got hit at the front end of their drawdown and had their portfolios decimated.
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Re: The Rise and Fall of Shiller PE/10

Post by HomerJ » Mon May 07, 2012 10:34 am

Lbill wrote:For accumulators with a 30-40 year horizon, the best time to have started investing regular amounts would have been at the beginning of these downcycles in 1902, 1930, 1937, 1966, or (hopefully) 2000. They were able to buy shares at lower prices and benefited from the up-cycles that eventually followed (we assume that will eventually happen for the accumulators who started in 2000 too).
Ah, so we agree about something! Why have you been telling everyone on this boards that stocks are a fools game for the last 5 years, when these are the years accumulators SHOULD be buying stocks?
But the losers were those who were within 10-15 years of retirement and those who were already retired and starting to draw down their portfolios. The pre-retirees got hit when their portfolios were larger and during their peak earning and contribution years. Retirees got hit at the front end of their drawdown and had their portfolios decimated.
Which is why we always say age in bonds (I say age+10 in bonds)... If you're 60 and close to retiring, your exposure to stocks should be much less.

I'm 50/50 in my 40s, and by the time I retire at 60, I'll probably be 25/75 stocks/bonds.... A 50% stock market crash will only hit me for a 12% loss, which probably means 3 vacations that year instead of 4. Hardly a disaster.

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Withdrawal Rates, Savings Rates, and Valuation-Based Asset A

Post by cldrunner » Mon May 07, 2012 10:47 am

Here is a recent article in the Journal of Financial Planning pertaining to allocation according to PE 10

http://www.fpanet.org/journal/Withdrawa ... Valuation/


This article provides favorable evidence based on the historical record for clients to obtain improved retirement planning outcomes (lower savings rates, higher withdrawal rates) using dynamic valuation-based asset allocation strategies. This is illustrated with a specific example comparing a 50/50 fixed allocation strategy to the Graham and Dodd valuation-based strategy with a stock allocation of 25 percent, 50 percent, or 75 percent, determined by the value of PE10 with respect to its rolling median value.

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Re: Withdrawal Rates, Savings Rates, and Valuation-Based Ass

Post by Lbill » Mon May 07, 2012 11:20 am

cldrunner wrote:Here is a recent article in the Journal of Financial Planning pertaining to allocation according to PE 10

http://www.fpanet.org/journal/Withdrawa ... Valuation/


This article provides favorable evidence based on the historical record for clients to obtain improved retirement planning outcomes (lower savings rates, higher withdrawal rates) using dynamic valuation-based asset allocation strategies. This is illustrated with a specific example comparing a 50/50 fixed allocation strategy to the Graham and Dodd valuation-based strategy with a stock allocation of 25 percent, 50 percent, or 75 percent, determined by the value of PE10 with respect to its rolling median value.
Thanks for the link to the article by Wade Pfau. Interestingly, if you were following this simple dynamic allocation model, you should now have a "low" allocation to stocks (25% using the Graham & Dodd strategy). PE/10 is now almost 23 and the upper bound of the range (4/3 x Median CAPE) is 21. At the market low on 3/2009 you would have only been at a "medium" stock allocation (50% using G&D).
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Re: The Rise and Fall of Shiller PE/10

Post by Leesbro63 » Mon May 07, 2012 1:24 pm

rrosenkoetter wrote:[by the time I retire at 60, I'll probably be 25/75 stocks/bonds.... A 50% stock market crash will only hit me for a 12% loss, which probably means 3 vacations that year instead of 4. Hardly a disaster.
But this presents you with a serious problem: For the 4% SWR rule to work (or 3% or whatever you find to be "safe enough"), all of the studies show that you need to never dip below 40% equities.

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Re: The Rise and Fall of Shiller PE/10

Post by HomerJ » Mon May 07, 2012 1:26 pm

Leesbro63 wrote:
rrosenkoetter wrote:[by the time I retire at 60, I'll probably be 25/75 stocks/bonds.... A 50% stock market crash will only hit me for a 12% loss, which probably means 3 vacations that year instead of 4. Hardly a disaster.
But this presents you with a serious problem: For the 4% SWR rule to work (or 3% or whatever you find to be "safe enough"), all of the studies show that you need to never dip below 40% equities.
Never heard that before... and why wouldn't 3% work if 4% doesn't?

Besides I plan to cover my "needs" with a SPIA, so really the 25/75 is just for wants and emergencies.

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Re: The Rise and Fall of Shiller PE/10

Post by Leesbro63 » Mon May 07, 2012 2:11 pm

OK then, you aren't really using an SWR method of total portfolio withdrawal. Your plan sounds workable, provided your SPIA is inflation adjusted (which is VERY expensive) or inflation doesn't rear it's ugly head much. Although inflation can be an issue for SWR plans too.

But back to your original comment: yes, review all of the TRINITY, BENGEN or BOGLEHEAD SWR studies and all of them assume portfolios in the 40/60 to 60/40 range. Meaning minimum equity is always 40%.

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Re: The Rise and Fall of Shiller PE/10

Post by Leesbro63 » Mon May 07, 2012 3:28 pm

rrosenkoetter wrote:why wouldn't 3% work if 4% doesn't?
Because merely withdrawing $30,000 per year per million dollars invested versus $40,000 is twenty five percent safer and that much more likely to "work". Actually, I think the math is off there, but you get my point. And I think Dr. Bernstein pointed out that at these levels of withdrawal, anything more than an 80% safe scenario is folly because of external shocks that negate the safety margin above 80%.

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Re: The Rise and Fall of Shiller PE/10

Post by nisiprius » Mon May 07, 2012 6:38 pm

Lbill wrote:For accumulators with a 30-40 year horizon, the best time to have started investing regular amounts would have been at the beginning of these downcycles in 1902, 1930, 1937, 1966, or (hopefully) 2000. They were able to buy shares at lower prices and benefited from the up-cycles that eventually followed (we assume that will eventually happen for the accumulators who started in 2000 too).
They might not able to buy shares at lower prices because what they might not have had any salary to do that with. Economic downturns are inconvenient that way.

The apple sellers were emblematic of the Depression and got so much press coverage precisely because they were often white-collar workers who'd had good jobs. I saw some old news items that indicated that apple sellers made around $22/month, equivalent to $330/month today. I don't think they were buying much in the way of stocks.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.

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Re: The Rise and Fall of Shiller PE/10

Post by Lbill » Mon May 07, 2012 9:38 pm

The apple sellers were emblematic of the Depression and got so much press coverage precisely because they were often white-collar workers who'd had good jobs. I saw some old news items that indicated that apple sellers made around $22/month, equivalent to $330/month today. I don't think they were buying much in the way of stocks.
But the shoe shine boys were apparently buying stocks right up until the yellow brick road went off the cliff. :shock:
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Re: Withdrawal Rates, Savings Rates, and Valuation-Based Ass

Post by Rodc » Tue May 08, 2012 9:20 am

Lbill wrote:
cldrunner wrote:Here is a recent article in the Journal of Financial Planning pertaining to allocation according to PE 10

http://www.fpanet.org/journal/Withdrawa ... Valuation/


This article provides favorable evidence based on the historical record for clients to obtain improved retirement planning outcomes (lower savings rates, higher withdrawal rates) using dynamic valuation-based asset allocation strategies. This is illustrated with a specific example comparing a 50/50 fixed allocation strategy to the Graham and Dodd valuation-based strategy with a stock allocation of 25 percent, 50 percent, or 75 percent, determined by the value of PE10 with respect to its rolling median value.
Thanks for the link to the article by Wade Pfau. Interestingly, if you were following this simple dynamic allocation model, you should now have a "low" allocation to stocks (25% using the Graham & Dodd strategy). PE/10 is now almost 23 and the upper bound of the range (4/3 x Median CAPE) is 21. At the market low on 3/2009 you would have only been at a "medium" stock allocation (50% using G&D).
One of the primary problems with P/E10 timing as generally put forth is you cannot price an investment in isolation. The price of competing investments must be taken into account. Jumping from stocks to bonds at P/E10 = x when bonds are returning 2% real is different from when bonds are returning -2% real, for example.

This is the general problem of doing statistical analysis without understanding proper context.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.

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Re: The Rise and Fall of Shiller PE/10

Post by Lbill » Tue May 08, 2012 9:37 am

One of the primary problems with P/E10 timing as generally put forth is you cannot price an investment in isolation. The price of competing investments must be taken into account. Jumping from stocks to bonds at P/E10 = x when bonds are returning 2% real is different from when bonds are returning -2% real, for example.

This is the general problem of doing statistical analysis without understanding proper context.
How do you actually know this - have you done the research? Studies such as Pfau's have investigated changing allocations between stocks and cash, not bonds. The results of these studies should be carefully evaluated both for validity and for applicability to one's situation, rather than dismissing them with a wave of the hand, IMO.
"Life can only be understood backward; but it must be lived forward." ~ Søren Kierkegaard | | "You can't connect the dots looking forward; but only by looking backwards." ~ Steve Jobs

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Re: The Rise and Fall of Shiller PE/10

Post by Rodc » Tue May 08, 2012 1:57 pm

Lbill wrote:
One of the primary problems with P/E10 timing as generally put forth is you cannot price an investment in isolation. The price of competing investments must be taken into account. Jumping from stocks to bonds at P/E10 = x when bonds are returning 2% real is different from when bonds are returning -2% real, for example.

This is the general problem of doing statistical analysis without understanding proper context.
How do you actually know this - have you done the research? Studies such as Pfau's have investigated changing allocations between stocks and cash, not bonds. The results of these studies should be carefully evaluated both for validity and for applicability to one's situation, rather than dismissing them with a wave of the hand, IMO.
Bonds, cash, real estate. Any alternative to stocks can be used in my example. Non-buy and hold investors (the folks who drive the market) almost by definition are constantly evaluating their options and deploy their assets on the relative merits of their investment options.

Really, do you think active investors making the call as to whether to invest in stocks or bonds this afternoon ignore the current yield on bonds, interest on cash, etc.?

The degree to which that matters is certainly worthy of research. One would be naive to think relative value has no effect. However if one wants to do the research and can show I am wrong that would be great. I'm always willing to be proven wrong.

Assuming it makes no difference seems quite unwise.

I have read much of Wade's work, and I have done a fair amount of research myself on timing though I used Tobin's q which some think is superior to P/E10. The challenge is this is very prone to backtesting bias. That is it is always trivial to find what would have worked (much like the best rebalancing strategy), but the results are often dependent on subtle good luck (data mining) in the particular data set (again like rebalancing strategy), that likely won't repeat quite the same way in the future.

In order to have any real chance of working well in the future, any method has to be very insensitive to activation thresholds, specific definition/classification, specific choice of data set chosen, etc. I am not sure timing will ever be robust to these issues.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.

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Re: The Rise and Fall of Shiller PE/10

Post by brswif00 » Tue May 08, 2012 3:54 pm

The OP was
Is this time different, or will we eventually see another single-digit low in PE/10 before it heads back up over a multi-year period again????
What is different this time, so far, and what has kept PE10 in double-digits, is unprecedented money-printing by the Fed. If the Fed keeps this going forever then PE10 will never bottom below 10. If the Fed chooses to stop, or is forced to stop, or even slow down, then it will.

This is simple and widely understood, but also useless. Nobody knows for certain which outcome will happen. What is certain is that if the Fed had not intervened massively then PE10 < 10 would have been seen in 2009.

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Re: The Rise and Fall of Shiller PE/10

Post by Lbill » Tue May 08, 2012 4:00 pm

This is simple and widely understood, but also useless. Nobody knows for certain which outcome will happen. What is certain is that if the Fed had not intervened massively then PE10 < 10 would have been seen in 2009.
And boy, I was there with open arms waiting for it. On the exact day in March, 2009 when the market hit bottom I started back in but I was holding off firing the big guns until I saw the whites of their eyes. But that lovely single digit benchmark got snatched away. I'm still there with open arms if it gets back down there, but it would be one hellava drop from 23. :shock:
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Re: Withdrawal Rates, Savings Rates, and Valuation-Based Ass

Post by cldrunner » Fri May 11, 2012 11:23 am

Lbill wrote:Thanks for the link to the article by Wade Pfau. Interestingly, if you were following this simple dynamic allocation model, you should now have a "low" allocation to stocks (25% using the Graham & Dodd strategy). PE/10 is now almost 23 and the upper bound of the range (4/3 x Median CAPE) is 21. At the market low on 3/2009 you would have only been at a "medium" stock allocation (50% using G&D).
Here is another article that you may be interested in.

http://www.bizmonthly.com/study-by-loca ... investing/

http://www.fpanet.org/journal/CurrentIs ... edReturns/

Study Overview

Our study attempts to illustrate how incorporating a simple factor such as market valuation into a tactical asset allocation process can improve the risk-adjusted returns of client portfolios. Instead of presenting active management as a “guessing game” with a 50/50 chance of being right or wrong, we illustrate the benefit of incorporating a simple valuation-rules-based approach to tactical asset allocation, in which the investor increases the portfolio’s exposure to equities when markets in the aggregate are inexpensive and reduces it when markets are overpriced relative to historical standards.

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Re: The Rise and Fall of Shiller PE/10

Post by cldrunner » Wed May 16, 2012 1:59 pm

For a more in depth look at PE an how they relate to bull and bear markets Ed Easterling has a book called Probable Outcomes (2011). His market research is at:

http://www.crestmontresearch.com/stock-market/



Below is a link to PE ratios in both bull and bear markets dating back to 1901.


http://www.crestmontresearch.com/docs/S ... -Chart.pdf

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Re: The Rise and Fall of Shiller PE/10

Post by zotty » Wed May 16, 2012 3:16 pm

It seems that a P/E based tactical model is deficient if it overlooks the impact of inflation on PE ratios. In high inflationary times, shouldn't we expect significant P/E compression? shouldn't the model try to account for this?
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Re: The Rise and Fall of Shiller PE/10

Post by archbish99 » Wed May 16, 2012 4:35 pm

zotty wrote:It seems that a P/E based tactical model is deficient if it overlooks the impact of inflation on PE ratios. In high inflationary times, shouldn't we expect significant P/E compression? shouldn't the model try to account for this?
PE10 uses inflation-adjusted earnings for the last ten years.... Is there additional accounting that you think would be necessary?
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Re: The Rise and Fall of Shiller PE/10

Post by zotty » Wed May 16, 2012 7:35 pm

it will probably overweight in periods of inflation. High nominal yields will compete with equities for each investment dollar, driving the bargain. Then again, perhaps that is good for stocks compared to bonds.

That said, shifting 10% of your portfolio 1/5th of the time doesn't seem like it would do all that much.
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