E10 is a concept invented by Prof. Robert Shiller, who uses E10 for his Shiller P/E calculation. When we calculate the todays Shiller P/E ratio of a stock, we use todays price divided by E10.
What is E10? How do we calculate E10?
E10 is the average of the inflation adjusted earnings of a company over the past 10 years. Lets use an example to explain.
If we want to calculate the E10 of Wal-Mart (WMT) for Dec. 31, 2010, we need to have the inflation data and the earnings from 2001 through 2010.
We adjusted the earnings of 2001 earnings data with the total inflation from 2001 through 2010 to the equivalent earnings in 2010. If the total inflation from 2001 to 2010 is 40%, and Wal-Mart earned $1 a share in 2001, then the 2001s equivalent earnings in 2010 is $1.4 a share. If Wal-Mart earns $1 again in 2002, and the total inflation from 2002 through 2010 is 35%, then the equivalent 2002 earnings in 2010 is $1.35. So on and so forth, you get the equivalent earnings of past 10 years. Then you add them together and divided the sum by 10 to get E10.
If a company grows much fast than inflation, E10 may underestimate the company's earnings power. Shiller P/E Ratio can seem to be too high even the actual P/E is low.
Shiller P/E Ratio works better for cyclical companies. It gives you a better idea on the company's real earnings power.
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