Using Shiller PE to Time the Market

[Texas Proud]

Quote:

Originally Posted by target2019 I can index with most of the crowd. If you go down through the steps and write them out in a way a dummy like me can execute the strategy, it could happen. This really goes to the heart of timing strategies. How does a typical investor pull it off? I know you can do it, but I can't. It requires time and watching unless you have a way to send me alerts and tell me what to do.

And once that occurs..... it no longer works....


Or it creates a more massive correction as the whole world moves with the trigger..... so then we need a pre-trigger notice...

[Running_Man]

Because this indicator is a long term indicator, infrequent by design and not precise in timing it will never be popular nor garner any type of world wide following. For me it is another warning sign that being at 25% stocks is more prudent than increasing my current allocation.

This CAPE indicator is competing against current dogma most investors appear to hold - if you buy the whole market and add on dips you will always do better than 99% of the investing world, as long as you are at your proper allocation level. That dogma is actionable, been reinforced by market actions the last 25 years and appears to be a cornerstone of FED policy. These strongly held beliefs are I believe why the CAPE ratio has been spending so much time the last 18 years over it's historical trend.

[Texas Proud]

Quote:

Originally Posted by Running_Man Because this indicator is a long term indicator, infrequent by design and not precise in timing it will never be popular nor garner any type of world wide following. For me it is another warning sign that being at 25% stocks is more prudent than increasing my current allocation. This CAPE indicator is competing against current dogma most investors appear to hold - if you buy the whole market and add on dips you will always do better than 99% of the investing world, as long as you are at your proper allocation level. That dogma is actionable, been reinforced by market actions the last 25 years and appears to be a cornerstone of FED policy. These strongly held beliefs are I believe why the CAPE ratio has been spending so much time the last 18 years over it's historical trend.

I do not think that the dogma you present thinks they do better than 99% of the investing world.... but do think they do better than 50%....

The biggest concern that I have with CAPE is it is looking historically... and to me a stock price is based on future earnings... I could care less what companies earned the past 10 years.... I want to know what they are going to earn the next 10....



I will throw out another thought on this... but have no idea what it might mean... we are in a new world in stock valuation.... there are many companies that are huge market caps that do not have that much history... Google, Amazon, Netflix, Facebook.... heck even Apple is not that old of a company... they sell at a high multiple (except Apple) or even do not make money (Amazon $239 bill cap)...

The question is will these firms come crashing down to reality or continue to grow earnings to prove their valuation.... Apple has so far proven they can earn money at an astounding rate... so if you took these high PE stocks out of the CAPE calculation, where would it stand IOW, do the old line companies have a normal CAPE ratio and are worth holding?

[sengsational]

That sounds a lot like "it's going to be different this time". It might be different, but it seems like the rules of economics are still basically in place. Balance sheet assets are certainly different than intellectual capital, and widgets, different than services, but either way, they've got to be making a profit in the long run or they will fail.

[samclem]

Quote:

Originally Posted by Texas Proud The biggest concern that I have with CAPE is it is looking historically... and to me a stock price is based on future earnings... I could care less what companies earned the past 10 years.... I want to know what they are going to earn the next 10....

But historical earnings are firm. Introducing a trigger based on future earnings invites all type of subjectivity/shenanigans/huge uncertainty.

Quote:

Originally Posted by Texas Proud . . . . so if you took these high PE stocks out of the CAPE calculation, where would it stand IOW, do the old line companies have a normal CAPE ratio and are worth holding?

That's an interesting question. It assumes that the historical CAPE was less influenced by a few stocks with huge PEs (probably true, but I'd need to look it up) and that an investor is willing to try to find a practical way to hold a portfolio free of these high-flyers so that the "modified CAPE" can be used.

[Texas Proud]

Quote:

Originally Posted by sengsational That sounds a lot like "it's going to be different this time". It might be different, but it seems like the rules of economics are still basically in place. Balance sheet assets are certainly different than intellectual capital, and widgets, different than services, but either way, they've got to be making a profit in the long run or they will fail.

I actually think it is different now than before... companies are coming out with valuations over $50 billion with few assets and low earnings... back when I was young, a market cap that big was a BIG company...... and had profits to back it up or paid the price...

Amazon has a market cap of $236 billion and does not make money....
Tesla has a market cap higher (almost $32b) than the regular auto companies and does not make a profit... heck, the are burning through cash like a dot com company....

There are many other companies that can be put into this category... they are hoping for a payday in the future like Google did...

It used to be hard for a company to grow so fast... now it seems like a company can go from nothing to $20B, $50B or even $100B valuation in less than a decade...

I heard that the total S&P 500 PE was around 15... that is not out of line... so even with these high flyers, the market does not seem overpriced...

Now, it does not mean there will not be a drop of 10% to 20%.... that can happen due to the Fed raising rates... but, since a timing method has to have two right calls, a sell and a buy or a buy and a sell, I will just live with what I know works for me....


OH, I also heard that the vast majority of gains came from 90 trading days over the past 10 years.... if you were out of the market during those days you were basically flat... another reason to just hold....

[34rlsa]

If anyone is interested... the links below provide current PE Ratios

S&P 500 PE Ratio

Current S&P 500 PE Ratio: 19.66 +0.02 (0.12%)
4:05 pm EDT, Thu Sep 3

Shiller PE Ratio

Current Shiller PE Ratio: 24.74 +0.03 (0.12%)
4:05 pm EDT, Thu Sep 3

[sengsational]

Quote:

Originally Posted by Texas Proud Amazon has a market cap of $236 billion and does not make money.... Tesla has a market cap higher (almost $32b) than the regular auto companies and does not make a profit... heck, the are burning through cash like a dot com company....

As you say, people are hoping that some day the ship will come in for these guys. It might. People are more patient than I am with these kinds of companies. By default, I own some of them as part of the indexes, but if I had my druthers, I'd not own them....too much of a gamble. I'd rather buy something that has a scrap value something close to the market cap, but I suppose I'm being old-school.

Quote:

Originally Posted by Texas Proud OH, I also heard that the vast majority of gains came from 90 trading days over the past 10 years.... if you were out of the market during those days you were basically flat... another reason to just hold....

I think that's true. Probably the majority of the losses came in a relative few days too, though. If, by some magic, someone told me with 100% certainty that this PE 10 trading scheme was not overfit to the data, I'd use it for sure, and risk being out of the market on a few big up days. The scheme, in the past 134 years, has you in the market 82% of the time, so a good chance to catch most of the ups.

[Totoro]

Quote:

Originally Posted by sengsational If, by some magic, someone told me with 100% certainty that this PE 10 trading scheme was not overfit to the data, I'd use it for sure, and risk being out of the market on a few big up days. The scheme, in the past 134 years, has you in the market 82% of the time, so a good chance to catch most of the ups.

Posted this elsewhere, but I did an analysis based on the real (CAPE-10)/P. so CAPE-10 inverted - inflation (yoy). Basically it bugged me that inflation is never taken into account and I look at equities as an infinite-life junior bond (with interest = earnings yield).

What I noticed: virtually anytime it drops below 0%, big trouble happened. The indicator stays fully invested roughly 90% of the time.

What it did (little bit simplified)
* It avoided a big part of the 2008 meltdown
* went out of the market in a flat 2005
* completely sidestepped the late 1999 meltdown, to re-enter mid 2001
* got out mid 1979, back in early 1981. Missed out on a 30% rise (bonds yielded 10% or so, so net 20% 'loss')- so a false flag
* got out mid 1973, back in mid 1975. Missed a 20% drop
* Avoided a small drop 15% from late 1968 to early 1970
* Got out first half of 1951, but nothing really happened (flat market)
* Ran away mid 1946, came back in mid 1948. Avoided a 10% drop.
* Something similar late 1941 to mid 1942

What it didn't do is avoid the 1929 meltdown because of deflation.

Depending on the periods you look at (e.g. 10y or 20y return, only look at more recent decades or everything since 1925) the net effect of all that is a 2% to 4% p.a. higher return. With less volatility (since it avoids major drops).

Not bad.

Is this overfitting? an artifact of chance? I don't know.

What I do know is that real earnings yield as a concept makes sense to me, just like it does in bonds. And that it's not so wise to invest in instruments with a real negative yield when there are other options.

I've been thinking to redo this analysis for other stock markets, see if it holds up there. Japan for instance would be interesting. Europe too.

[Edit]: since inflation right now is close to flat, the indicator stays in with a rather safe margin.

[gcgang]

What is the Shiller PE now? I just viewed an interesting presentation showing Shiller PE ranges for the last 100 or so years. 1999 was the highest reading ever, at 44. I think it was down to 26 at the beginning of the year. Btw, 26 is still higher than most previous market tops.

The presenter also showed market yield. The YE 2014 1.9% was the lowest on record, I think.


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[samclem]

Quote:

Originally Posted by gcgang What is the Shiller PE now?

See post 127.

[gcgang]

Quote:

Originally Posted by samclem See post 127.

Duh. Thanks. Don't know how I missed that.


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[Running_Man]

Quote:

Originally Posted by sengsational As you say, people are hoping that some day the ship will come in for these guys. It might. People are more patient than I am with these kinds of companies. By default, I own some of them as part of the indexes, but if I had my druthers, I'd not own them....too much of a gamble. I'd rather buy something that has a scrap value something close to the market cap, but I suppose I'm being old-school. I think that's true. Probably the majority of the losses came in a relative few days too, though. If, by some magic, someone told me with 100% certainty that this PE 10 trading scheme was not overfit to the data, I'd use it for sure, and risk being out of the market on a few big up days. The scheme, in the past 134 years, has you in the market 82% of the time, so a good chance to catch most of the ups.

Yes it may be TECHNICALLY TRUE but not true in any sort of logical way. In 2008 if you missed October 13th and October 28 you missed 22.37% gains in the S&P500. Now the opportunity that may have occurred is that by December the stock was 20% lower than it was on October 12th so if you invested on December 31st you would have gained 20% more than anyone that was in the market for the 2 largest point gains in the history of the S&P500.

As a matter of fact 2008 saw 8 of the highest 20 single gains in the history of the S&P500 and if you missed those days you missed a total of 54.28% gains, but 2008 actually was a loss of 35% so anything that uses single days as a basis for being fully invested at all times is a red herring.

[Totoro]

Quote:

Originally Posted by gcgang The presenter also showed market yield. The YE 2014 1.9% was the lowest on record, I think.

Assuming you are referring to dividend yield. Late 1999 was lowest: 1.2%.

1.8% is actually "middle of the road" if you look at the past 20 years. And given the low inflation, as well as increased buybacks, it's actually better than that.

[sengsational]

Quote:

Originally Posted by Running_Man ... so anything that uses single days as a basis for being fully invested at all times is a red herring.

Agreed. If the big up day was preceded by a big down day, a long-term reallocation scheme would have been out for both, or in for both, so a wash. A short-term market timer can be killed by that effect, but for a scheme that was out of the market 5 times in 135 years (counting this latest sell) can only get caught with that pitfall a handful of times, and they're small potatoes in the big picture.

[target2019]

Quote:

Originally Posted by gcgang What is the Shiller PE now? I just viewed an interesting presentation showing Shiller PE ranges for the last 100 or so years. 1999 was the highest reading ever, at 44. I think it was down to 26 at the beginning of the year. Btw, 26 is still higher than most previous market tops. The presenter also showed market yield. The YE 2014 1.9% was the lowest on record, I think.

This link has the data you want.
Shiller PE Ratio

[Mulligan]

Quote:

Originally Posted by 34rlsa If anyone is interested... the links below provide current PE Ratios S&P 500 PE Ratio Current S&P 500 PE Ratio: 19.66 +0.02 (0.12%) 4:05 pm EDT, Thu Sep 3 Shiller PE Ratio Current Shiller PE Ratio: 24.74 +0.03 (0.12%) 4:05 pm EDT, Thu Sep 3

Kind of sobering stat isn't it. We have had a recent nice market drop off and it is still comfortably above mean average. And to think it is only up what about 400 points since 2000 peak?


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[sengsational]

Quote:

Originally Posted by Mulligan Kind of sobering stat isn't it. We have had a recent nice market drop off and it is still comfortably above mean average. And to think it is only up what about 400 points since 2000 peak?

Sobering indeed. 400 points up, but if you factor inflation, we basically bounced off of the 2000 peak earlier this year. That means we're down about 8% from the 2000 peak, yet still in 'overvalued' territory according to this metric.

[target2019]

The 30's were really rough. I got involved with this planet in the early 50's. Our investing started in the 80's. Something tells me we'll be alright until the next meteor hit.

https://public.dreyfus.com/documents...s/skyandex.pdf

[sengsational]

Quote:

Originally Posted by target2019 The 30's were really rough. I got involved with this planet in the early 50's. Our investing started in the 80's. Something tells me we'll be alright until the next meteor hit. https://public.dreyfus.com/documents...s/skyandex.pdf

A busy chart, that one. If I were in accumulation phase, I don't know if I'd welcome a fall that put the PE 10 down to the mid teens, but I'd not be as concerned since I'd have an opportunity to buy low. Rebalancing is ok, but one must live long enough to benefit from the eventual recovery.