Last week, well-known Yale professor and economist Robert Shiller issued a public warning on the over-valuation of U.S. stock, bond and housing markets. In his comments in a CNBC interview, Prof. Shiller pointed to the current extremely high cyclically adjusted price-earnings ratio (CAPE) ratio – a stock valuation index he developed, designed to measure the S&P 500 (INDEXSP:.INX)’s average inflation-adjusted earnings over the prior 10 years.
The long-running bull market of the last few years is leading a growing number of market analysts to suggest that a significant correction may be seen relatively soon.
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CAPE ratio signaling danger
Shiller’s central argument is that the very high CAPE ratio is signaling danger for nearly all U.S. financial markets. He highlights that the ratio is currently at 25, a height that has been topped only three times since 1881 – in the fateful years of 1929, 1999 and 2008. Of note, the CAPE ratio averaged 15.21 throughout the 20th century, and hit 23 last year.
Jack Boroudjian disagrees with Shiller
Jack Boroudjian, the Chief Investment Officer at Index Financial Partners, disagrees with Shiller.
“He is dead wrong. This market is not too expensive,” Bouroudjian said in an interview on CNBC on Wednesday, pointing out that the commonly used price-to-earnings ratio for the S&P 500 is relatively close to historical norms.
Boroudijian continued to say: “Shiller uses a strange equation. I think there is a significant flaw in using average 10 year average earnings as the denominator in the P/E ratio… Most of us in the real world calculate the fair value of the market by looking at the forward earnings and then the multiple. Today, forward earnings are running around $120 for the S&P 500 for 2014, so the multiple is roughly 16.2.”
He also does not believe the stock market is entering into a speculative bubble. “There is no speculation in this market; if we saw speculation we would see a P/E [ratio] of around 20… now it is basically at the norm and this is one of the reasons why in this low-interest environment there is so much upside potential.”