# Shiller P/E – A Better Measurement of Market Valuation

#### Market Overvalued, How to Invest?

Stay defensive! GuruFocus Buffett-Munger Screener is the screen for high quality companies at undervalued prices. The portfolio of Buffett-Munger companies has outperformed the market every year.Check Out the Buffett-Munger Screener

### Shiller P/E: 23.6 ( -0.07%)

Shiller P/E is 41.3% higher than the historical mean of**16.7**

Implied future annual return:

**1.3%**

Historical low:

**4.8**

Historical high:

**44.2**

S&P 500:

**1852.21**

Regular P/E:

**20**(historical mean: )

Prof. Robert Shiller of Yale University invented the Schiller P/E to measure the market's valuation. The Schiller P/E is a more reasonable market valuation indicator than the P/E ratio because it eliminates fluctuation of the ratio caused by the variation of profit margins during business cycles. This is similar to market valuation based on the ratio of total market cap over GDP, where the variation of profit margins does not play a role either.

GuruFocus calculates the Shiller P/E ratio of individual stocks and different sectors. Here you can see the Sector Shiller PE, it shows you which sectors are the cheapest. Here you can see Shiller P/E of individual stocks.

**How Is the Shiller P/E Calculated?**

- Use the annual earnings of the S&P 500 companies over the past 10 years.
- Adjust the past earnings for inflation using CPI; past earnings are adjusted to today's dollars.
- Average the adjusted values for E10.
- The Shiller P/E equals the ratio of the price of the S&P 500 index over E10.

**Why Is the Regular P/E Ratio Deceiving?**

The regular P/E uses the ratio of the S&P 500 index over the trailing-12-month earnings of S&P 500 companies. During economic expansions, companies have high profit margins and earnings. The P/E ratio then becomes artificially low due to higher earnings. During recessions, profit margins are low and earnings are low. Then the regular P/E ratio becomes higher. It is most obvious in the chart below:

The highest peak for the regular P/E was 123 in the first quarter of 2009. By then the S&P 500 had crashed more than 50% from its peak in 2007. The P/E was high because earnings were depressed. With the P/E at 123 in the first quarter of 2009, much higher than the historical mean of 15, it was the best time in recent history to buy stocks. On the other hand, the Shiller P/E was at 13.3, its lowest level in decades, correctly indicating a better time to buy stocks.

**Shiller P/E Implied Market Return **

If we assume that over the long term, the Shiller P/E of the market will reverse to its historical mean of $mean, the future market return will come from three parts:

- Contraction or expansion of the Schiller P/E to the historical mean
- Dividends
- Business growth

The investment return is thus equal to:

*Investment Return (%) = Dividend Yield (%) + Business Growth(%) + (Mean_Shiller_PE/Current_Shiller_PE) ^{(1/T)}-1 *

From this we will estimate that at the Shiller P/E's current level, the future market return will be around 1.3% a year. This is the historical implied return, actual return and long term interest. Interest rate does have an impact on the market returns. Click on the legend of the chart below to show/hide chart series.

In reality, it will never be the case that Shiller P/E will reverse exactly to the mean after 8 years. Table below give us a better idea on the range of the future returns will be if the market are within 50% to 150% of the mean.

Scenario | Shiller P/E after 8 Years | Annual Return from Today (%) |
---|---|---|

Really Lucky | Mean x 150% | 6.3% |

Lucky | Mean x 125% | 4% |

Reverse to the Mean | Mean x 100% | 1.3% |

Unlucky | Mean x 75% | -2% |

Really Unlucky | Mean x 50% | -6.6% |

**Investment Strategies at Different Market Levels**

The Shiller P/E and the ratio of total market cap over GDP can serve as good guidance for investors in deciding their investment strategies at different market valuations. Historical market returns prove that when the market is fair or overvalued, it pays to be defensive. Companies with high quality business and strong balance sheet will provide better returns in this environment. When the market is cheap, beaten down companies with strong balance sheets can provide outsized returns.

To summarize:

- When the market is fair valued or overvalued, buy high-quality companies such as those in the Buffett-Munger Screener.
- When the market is undervalued, buy low-risk beaten-down companies like those in the Ben Graham Net-Net Screener. Buy a basket of them and be diversified.
- If market is way over valued, stay in cash. You may consider hedging or short.

Again, here you can see the Sector Shiller PE, it shows you which sectors are the cheapest. Here you can see Shiller P/E of individual stocks.

## Add Notes, Comments

If you want to ask a question or report a bug, please create a support ticket.## User Comments

Appelsiner- 5 months agoDoes anybody know where to get the Greek Per-Shiller in real time data...? I read an article not too long ago talking about it and it was as far as I remember as low as below 4 points, but I would need a website like this one where we can check that on a daily basis.

Thank you to all!

Best!

App

Caninvest- 9 months agoStephen Neumeier- 11 months agoJlp1965- 1 year agoDjfield0@google- 1 year agoFor example, if inflation is 3% and CPI is 2%, then the figures could be over 10% off in the early years of the decade.

Rpostman- 1 year agoShiller notes that his P/E has demonstrated LONG term correlation with stock prices. It just has to be used correctly. Here is Siller's advice:

He says that the CAPE (his P/E) "is NOT a market timing mechanism, It is continual and it does not tell you -- wait until the market goes all the way down to a CAPE of 7 or something. Right now (at about 24) the CAPE is high but it's not super high." He does advise that as the CAPE goes up it it may be prudent to invest lesss and expect less in the way of LONG TERM gains." There are other important variables.

However, another researcher says that the resaerch indicates problems seem to begin when the CAPE is above 26x, and we are very close to that now. When we get in this range I become much more cautious, particulaly with the "regular" S$P 500 PE near 20.

I suspect we're in the very late ininmgs, perhaps the last, for nowe.

Jhoninck- 2 years agodon't think it yields something profitable and I fear it will have long periods of large drawdowns.

Gurufocus- 2 years agohttp://www.gurufocus.com/global-market-valuation.php

Rjmmd- 2 years agoPjmason14- 2 years agoURounder- 2 years agoChristiine_ng27@facebook- 2 years agoHenryl65@facebook- 2 years agoHe makes the classic error of using forward operating earnings at peak margins. Margins are currently 70% above the historical long term norm. Over time, like valuations, they revert to a mean. Also, he only uses data back to 1993...hardly far enough considering stocks are (or should be) very long-run investments.

Billbyte- 3 years agoBrucechin- 3 years agoPoint 1) As Birinyi points out, Shiller's P/E has been signalling to sell as we are over the mean since 2009 and has missed out on basically a market double from the bottom as it has gotten more expensive. Even at the bottom of 2009 it barely gave a buy signal with a Shiller P/E of 13.4

Point 2) As a stock market gauge it's also useless as evidenced now at 22x. Smoothing earnings out to try and get an understanding of a company's normalized earnings simplifies the role of business analysis needed to understand the economic drivers of a company.

Keep fundamental business analysis/modelling to determine where you think earnings will go and then use simple P/E, among many methods, to get value.

The_laws- 3 years agoRegards,

Doug

Beatsj- 3 years agothanks

Steve Pomeranz- 3 years agoGurufocus- 3 years agoBlacksand- 3 years agoAJ Post- 3 years agoMatteo78- 3 years agoThanks

Chentao1006- 4 years agoTdimo- 4 years agoGurufocus- 4 years agoGurufocus- 4 years agoAAAMPblog- 4 years agoBenethridge- 4 years agoWhat about 3? When the market is way overvalued, sell stocks and buy some other asset class that's currently undervalued. ;-)

Ben

[email protected]- 4 years ago