CAPE v PEMAX: How hot are market valuations?

Robert Shiller’s CAPE ratio is currently at 32.17, the second-highest peak in recorded history. According to, prior to the Black Tuesday crash of 1929 CAPE had a reading of 30. The only peak with a higher reading is the Dotcom bubble at 44.

Shiller CAPE - click to enlarge

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Shiller’s CAPE, or Cyclically Adjusted PE Ratio to give it its full name, compares the current S&P 500 index value to the 10-year average of inflation-adjusted earnings. The aim is to smooth out the earnings cycle and provide a stable assessment of long-term potential earnings.

But earnings have fluctuated wildly in the past 10 years, and a 10-year average which includes severe losses from 2009 may not be an accurate reflection of current earnings potential.

S&P 500 Earnings

The dark line plotted on the above chart reflects the highest earnings to-date, or maximum EPS. The market often references this as the current, long-term earnings potential, in place of cyclical earnings.

The chart below compares maximum EPS (the highest earnings to-date) to the S&P 500 index. The horizontal periods on max EPS reflect when cyclical earnings are falling.

S&P 500 and Peak Earnings

It is clear that the index falls in response to cyclical fluctuations in earnings (the flat periods on EPS max). But it is also clear that earnings quickly recover to new highs after the index has bottomed. In Q1 of 2004 after the Dotcom crash and in Q3 of 2011 after the 2008 global financial crisis.

The next chart plots the current index price divided by maximum earnings to-date. I call it PEMAX. When earnings are making new highs, as at present, PEMAX will reflect the same ratio as for trailing 12-month PE. When earnings are below the previous high, PEMAX is lower than the trailing PE.


What the chart shows is that, outside of the Dotcom bubble, prices are highest in the last 30 years relative to current earnings potential. The current value of 22.56 is higher than at any time other than the surge leading into the Dotcom crash.

The peak value during the Dotcom bubble was 30.19 in Q2 of 1999. The highest value in the lead-up to the GFC was 20.23 in Q4 of 2003.

Does the current value of 22.56 mean that the market is about to crash?

No. The Dotcom bubble went on for two more years after reaching 22.80 in Q3 of 1997. The present run may continue for a while longer.

But it does serve as a reminder to investors that they are paying top-dollar for stocks. And at some point values are going to fall to the point that sanity is restored.

The four most expensive words in the English language are “this time it’s different.”

~ Sir John Templeton

True wisdom, Henry Fielding

Wisdom, in short, whose lessons have been represented as so hard to learn by those who were never at her school, teaches us only to extend a simple maxim universally known and followed even in the lowest life, a little farther than that life carries it. And this is not to buy at too dear a price.

Now, whoever takes this maxim abroad with him into the grand market of the world, and constantly applies it to honors, to riches, to pleasures, and to every other commodity which that market affords, is, I will venture to affirm, a wise man; and must be so acknowledged in the worldly sense of the word: for he makes the best of bargains, since in reality he purchases everything at the price of a little trouble, and carries home all the goods I have mentioned, while he keeps his health, his innocence and his reputation, the common prices which are paid for them by others, entire and to himself.

~ Henry Fielding: The History of Tom Jones, a Foundling (1749).

Probably the most important lesson one can ever learn: wealth and success are important, but not as important as your health, your family, your friends and your reputation.

Hollow Trees | Peggy Noonan

Great metaphor from Peggy Noonan:

You don’t know a tree is hollow until you push hard against it and it falls. The establishments of both parties did not know, a year ago, that they were hollow trees. They thought themselves strong because they always had been, and people think what has been true will continue. Then suddenly the tree is pushed and falls. To me that is the symbol, the image of 2016: the hollowed trees and how easily they fell.

Election night 2016 was not like 1980. That year produced an outcome fully within the political norms: a former two-term governor won the presidency. This year’s outcome went beyond all previous norms. Twenty-sixteen was like nothing in our lifetimes. In the future people will say, “Where were you that election night?” the way they do for other epochal moments.

Much of the mainstream, legacy media continues its self-disgrace. Having failed to kill Donald Trump’s candidacy they will now aim at his transition. Soon they will try to kill his presidency. Any journalists who are judicious toward Trump, who treat him fairly or even as a human being, are now accused of “normalizing” him. This is a manipulation: It is a way of warning your colleagues to approach the president-elect with the proper hostility or be scorned. None of this will do our country any good…..

Source: What to Tell Your Children About Trump – WSJ

The enemy within ~ Abraham Lincoln

“At what point then is the approach of danger to be expected? I answer, if it ever reach us, it must spring up amongst us. It cannot come from abroad. If destruction be our lot, we must ourselves be its author and finisher….”

Viktor Frankl: The power to choose your response

Between stimulus and response there is a space. In that space is our power to choose our response. In our response lies our growth and our freedom.

Austrian psychiatrist and neurologist Viktor Frankl spent three years in Theresienstadt, Auschwitz and later Dachau concentration camps (1942 – 1945). His mother and his brother Walter died at Auschwitz. His wife was moved to Bergen-Belsen, where she died. The only other survivor among his immediate family was his sister, Stella, who had emigrated to Australia. He published Man’s Search for Meaning in 1946.

Frankl concludes that the meaning of life is in every moment of living. Life never ceases to have meaning, even in suffering and death. He observed that a prisoner’s psychological reactions are not simply the result of his treatment, but from how he chooses to respond. The hold that a prisoner has on his inner self requires having hope in the future; if he loses that hope, he is doomed.

Margaret Thatcher: Interventions

The habit of ubiquitous interventionism, combining pinprick strikes by precision weapons with pious invocations of high principle, would lead us into endless difficulties. Interventions must be limited in number and overwhelming in their impact.

Epictetus: Commitment

In every act observe the things which come first and those which follow…. If you do not, at first you will approach it with alacrity…. but afterward you will be ashamed. A man wishes to conquer the Olympic games…. But observe the things which come first and the things which follow…. You must do everything according to the rule: eat according to strict orders, abstain from delicacies, exercise yourself at appointed times, in heat and cold, you must not drink cold water, nor wine as you choose…. And sometimes you will strain the hand, put the ankle out of joint, swallow much dust, sometimes be flogged, and after all this be defeated. When you have considered all this, if you still choose, go to the contest. If you do not (consider) you will behave like children, who at one time play as wrestlers, another time as flute players…. but with your whole soul you will be nothing at all.

~ Epictetus: Enchiridion (A.D. 55 – A.D. 135)


Imaginary portrait of Epictetus. Engraved frontispiece of Edward Ivie’s Latin translation (or versification) of Epictetus’ Enchiridon, printed in Oxford in 1751. Original title of the book: “Epicteti Enchiridion Latinis versibus adumbratum. Per Eduardum Ivie A. M. Ædis Christi Alumn. […] Oxoniæ, Theatro Sheldoniano, MDCCXV. […]” The subscription is an epigramm from the Anthologia Palatina (VII 676) and reads: Δοῦλος Ἐπίκτητος γενόμην, καὶ σῶμ’ ἀνάπηρος, καὶ πενίην Ἶρος, καὶ φίλος ἀθανάτοις. “I was Epictetus the slave, and not sound in all my limbs, and poor as Irus, and beloved by the gods.” (Irus is the beggar in the Odyssey.) Source: Wikipedia