I have written this post to cheer up Belg + others and you too Winner
Apparently history has it that if you average the PE Ratio of the S&P500 during the other times of
Low
inflation/
low
interest environments
LILI (as the USA is experiencing now) the reported PE Ratio figure comes out at 22.5.
Looking at Winners chart of the day post... the reported PE looks like about 17 and the close of S&P500 on Friday at 1110 gives an estimated reported profit of 1110/17 = $63.
Now we know that the 30th June reported profit was $64...so the chart of the day is accurate because we know that chart works off reported events at the time.
Now the question!!! ...
Is the S&P 500 overvalued or undervalued??....research shows using history as a reference that during times of
LILI the S&P500's PE Ratio is averaging 22.5........
.....so using the theorical calculations EPS x PE = Index... we get 64 x 22.5 =
1440
Therefore my valuation of S&P500 for this present LILI environment is 1440 therefore at
1110 the S&P500 is significantly undervalued.
Interesting to note...is that there are variables at work...contrary to belief.. high inflation or high deflation and interest rates are high or negative respectively pulls down the values of the PE Ratio to below 10 and during the height of the equity market boom times the LILI environment usually operates in raising the values of PE ratios to above 20. If you don't believe me don't recite the media to me..go study up the facts and figures....actually look at
Winner 69 chart of the day during the mid 1970's to mid 1980's when
high
Inflation and
high
interest rates existed
HIHI... the PE Ratio then was around the 10 mark or less for a decade.
Having just had a GFC the investor uncertainty and shyness towards equities is very noticeable and probably the reason why the S&P500 is so undervalued.
Will the S&P500 correct to its valued figure of 1440? ...perhaps.. even with stagnant zero growth and continued LILI going into 2011 the S&P500 index value will still be 1440 because nothing has changed.
However if company profit growth returns and the FED bumps up the interest rate to control inflation it is possible there could be no increase in the S&P500 index valuation (the paradox) but the investors may feel better and start buying in and push up the S&P500 to a point that it is fully valued or overvalued..
If say (hypothetically) that next year investors push the S&P500 from today's 1110 to 1440 because they are very confident with the post recovery big increases in company profit growth from say (hypothetically) today's $64 to $90... that scenario would see the reported PE ratio fall lower than now (paradox).... 1440 / 90 = reported PE Ratio 16...however, depending on the extent of the switch from a
LILI to a
HIHI environment, the 1440 in the post recovery next year at a PE ratio of 16 may be fully valued or overvalued. That overvaluation occurs because in a
HIHI environment the average PE ratio is around 10 or less
The paradox is that the S&P500 may be fairly valued at 1440 now under stagnant economic conditions but next year in much better times that 1440 may then be considered overvalued.
You can see now how the layman and especially the media would not understand how this could be possible.
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Originally Posted by Hoop
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