Shiller PE at 31.49

[Smashter]

Whoa. Makes me feel even better about using the Golden Butterfly asset allocation. The start date sensitivity part is especially comforting, and keeps me from guessing too hard about QE's effects.

[classical_Liberal]

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[liberty]

I think you guys should get rid of your home country bias. So much cheap stuff around the world, but still you want to invest in the 3rd most expensive country. Why?

[classical_Liberal]

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[Chris]

Is this freaking everyone else out as much as it it freaks me out? The 30 line on that graph is very ominous to me. The decline after the last two times it surpassed 30 was steep when it hit, a solid 40%+ drop in the stock markets.

The Shiller CAPE-10 is an interesting metric, but trying to time the market based on one number may lead to unnecessary freakouts. Better to consider CAPE-10 in context.

[classical_Liberal]

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[suomalainen]

Gold. Ha. Never understood investing in gold. Useless trinket.

[BlueNote]

As others have mentioned the US looks relatively expensive to other countries if you use CAPE or some similar PE metric.

However if you use a more 'pure' valuation technique, like implied equity risk premium, then prices look reasonable.

Super low interest rates combined with low inflation seem to be propping up this weird market where relative valuations are very high (Shiller PE) but DCF based valuations (implied equity risk premium for example) appear normal. Remember that markets will always bake in some expectation of opportunity costs (rates of return in alternate investments) into prices. CAPE is just a smoothed version of price/earnings so as interest rates in the bond market get lower the opportunity costs are lower in the stock market and thus, all else the same, price goes up and takes PE ratios with it. With inflation low and stable it makes expensive stocks appear much more appealing then earning almost no real return on bonds (~2% nominal interest).

Why isn't CPI a heck of a lot higher now given the almost decade long period of money printing and low interest rates? The stock market and, in many countries, real estate market has certainly been inflated heavily but overall the inflation effects have been tame. High general inflation would likely trigger the sort of interest rate increases necessary to bring CAPE down to more historically average levels. This sort of interest rate increase would probably crush current stock, mid/long bond and gold/hard asset prices, so maybe the cash hoarders would be the big winners in that scenario.

[classical_Liberal]

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[jacob]

The little I've read re US Federal Reserve policy; they are a bit confused as to why inflation remains low as well.

Really? I'm not confused.

During QE, bankholdings of treasuries and MBS were traded for cash with the CBs. This cash in turn went into equity, either directly (by investing) or by lending it to companies, who, finding not enough reasons to invest in new projects because of lack of ROI, instead used it to buy back their own shares(*) and grow their dividends. Essentially, they were LBOing themselves while sending the money to shareholders. Such leverage creates risk; dividends are not nearly as safe as they were. Failures of this behavior include IBM and GE.

(*) Reducing share count appears to boost EPS that is the E in P/E and is a way to make a company appear as if it is economically profitable even when it's only financially so. XOM did this for years.

This systemwide "LBO" mainly benefited people holding stocks (such as ourselves here---people who arrange their financial matters as if they were UHNWs) ... but the wealth effect of this did not translate into spending in the greater economy. Therefore the only prices that inflated were asset prices. Consumer prices stayed about the same, since most consumers haven't been on this ride.

Also consider that after 2009, retail-investors were quite burned. Many were sitting on cash .. or rather, trying to get their house overwater so they could actually move out without defaulting. This finally began to happen IIRC around 2014/15 or so.

Then there was the "Trump effect" in 2017 where any consumers who had been told that the economy was going terrible under Obama now were told that it is going great under Trump and thus stepped in as new buyers on the retail side.

Going forward, a very underreported aspect of the Trump administration is that there has been a lot of deregulation reducing regulatory costs of doing business. This has increased GDP, so this IS spilling out into the greater economy, and therefore this could pull inflation higher.

I don't really think the CBs are as confused as they pretend to be. While it is conceivable that they're having an "Upton Sinclair"-moment, but it's more likely that this relates to the Emperor's New Clothes of the structural monstrosity they've created.

[classical_Liberal]

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[BlueNote]

@jacob

I agree … It’s not a democratic inflation control mechanism. It’s more of a hierarchy with those groups closest to the CB getting the initial cash injections and then controlling how it gets disbursed in order to further benefit themselves (financial institutions). Equity can’t possibly invest all that new money to cover their cost of capital so they’re redistributing it (buybacks, dividends etc.) One thing they don’t seem to be doing is venturing much in the way of new equity investment which usually goes to capital investments with high expected returns. Instead of good old fashioned equity investment they’d rather get into ultra cheap long term liabilities (Bonds and loans) and use that for shareholder window dressing (buybacks and dividends). So yeah all this window dressing is starting to look like a big LBO in a lot of cases because business liabilities are staying on the balance sheet, and going up, while equity is being reduced. I think most of QE was designed to keep big financial institutions afloat because, despite free market ideas prevalent around ’08, these institutions were fragile and a key piece of the economy. The free market side wanted to just let all the bad banks go broke and they thought that the market would reform itself with new institutions. To me this seems very improbable given how connected the banks were to the rest of the economy and how much the banking business (and US government reserve currency status) was based on plain old trust that the deposits will always be there.

I'm not sure what viable alternatives there were to QE at the time.

[jacob]

@BlueNote - I recall there were some additional tax breaks for consumers (IIRC via EITC, but don't quote me on that) for a couple of years after 2009. However, any helicopter money going to consumers at that point was mostly used to reduce their personal leverage (pay down CC and mortage debt) and not for discretionary spending.

[classical_Liberal]

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[wood]

https://www.gmo.com/docs/default-source ... elt-up.pdf

Good read on pre-bubble statistics and psychology.

My main take-away from the read is to not only look at price levels, but price level acceleration, to get a better understanding of whether and where we are in bubble territory.

From the summary at the bottom of the article:

Summary of my guesses (absolutely my personal views)
■■ A melt-up or end-phase of a bubble within the next 6 months to 2 years is likely, i.e.,
over 50%.
■■ If there is a melt-up, then the odds of a subsequent bubble break or melt-down are
very, very high, i.e., over 90%.
■■ If there is a market decline following a melt-up, it is quite likely to be a decline of some
50% (see Appendix).
■■ If such a decline takes place, I believe the market is very likely (over 2:1) to bounce
back up way over the pre 1998 level of 15x, but likely a bit below the average trend of
the last 20 years, as the trend slowly works its way back toward the old normal on my
“Not with a Bang but a Whimper” flight path

[IlliniDave]

For no particular reason I tend to follow the simple SP500 PE(1) which is now up around 26. I had set PE(1) of 30 to be a ratchet-down trigger point, but decided not to wait for that. My old bail point was PE(1) = 40. Don't know if I've got the guts to hang in their that long. I'll just incrementally move away from equities (right now I'm thinking 10% per quarter) for as long things keep surging upward until my exposure is down around 25% if the surge lasts that long. That's driven by SWAN considerations, not any fancy maths or prescience. I suppose I have the excuse of being "close to retirement" where the conventional wisdom dictates a lowering of risk, so I'm not being a market timer

But that was an interesting read, thanks for linking. I also find it interesting my intuition is syncing up with Jeremy Grantham's more studied, erudite opinion.

[wolf]

I often read articles on that website. Today I found this, which is also within the context of the Shiller PE.

A Perspective on Secular Bull and Bear Markets

[Seppia]

The latest from Rob Arnott at Research Affiliates (who has an ongoing awesome “fun-feud” with Grantham going on BTW) is also great.

I like it because he’s somewhere in the middle between Grantham and Hussmann
https://www.researchaffiliates.com/en_u ... wrong.html

[ThisDinosaur]

That's driven by SWAN considerations, not any fancy maths or prescience.

What do you mean by that?

[IlliniDave]

That's driven by SWAN considerations, not any fancy maths or prescience.

What do you mean by that?

Oh, sorry. SWAN -> "sleep well at night", the idea being that if you worry a lot about your portfolio (i.e., it "keeps you up at night"), it's probably not a good portfolio for you.