Dear Fred,
freddyv wrote:
> It seems to me that it is okay to use the ten-year P/E for
> determining an average but not to apply it to the current stock
> valuation, which should always be the current valuation based on
> the past years' earnings...or am I wrong? I must be right because
> his statement that the P/E ratio got down to 6 is not based on ten
> years but the current earnings for that year. Right now the PE
> ratio is around 20 for the S&P 500 and earnings are falling with
> little possibilty of going up, possibly for years.
I guess if I were investing my own real money, I wouldn't think of
P/E1 versus P/E10 as an "either/or" -- I would look at both of them.
P/E1 might have been more appropriate in the internet age, when
you're looking for rapid growth among high-tech companies that didn't
even exist a few years ago.
P/E10 would be more appropriate if you're looking for solid stocks
and a long-term investment. If you plan to buy stocks and keep them
for ten or more years, then it makes sense to look carefully at how
the company did in the previous ten years.
In the early days of this web site, I used to talk about P/E10,
following Shiller's advice.
** 11% Solution - Adam Barth - Barrons
** http://www.generationaldynamics.com/cgi ... 0711eleven
Later, I switched to P/E1, mainly for expository purposes: To someone
who's unfamiliar with this stuff, P/E10 seems rather gimmicky, and
P/E1 is easier to understand.
The great fraud, as I complain about all the time, is the idiot
analysts confuse P/E1 with P/E-forward, where "forward earnings" are
bloated estimates.
** UBS AG analyst predicts a huge 53% stock surge in 2009
** http://www.generationaldynamics.com/cgi ... 04#e081204
Here's a P/E10 graph that I posted in 2005:
And here's a P/E1 graph that I posted in August, 2007:
One interesting difference between the two graphs is that the first
one shows greater equivalence between the 1920s bubble and the
current bubble, while the second graph doesn't make the 1920s look
like a bubble at all.
That's because the 1920s bubble was primarily a stock market bubble,
with both stock prices and earnings in the same bubble. So the P/E
ratio didn't go up much when you're looking a P/E1. With P/E10,
you're comparing current stock prices with 10-year earnings, so the
ratio goes up much farther in a bubble.
In the 2000s, the bubble was caused by the credit bubble and the
creation of hundreds of billions of dollars worth of credit
derivatives, whose nominal value was poured back into the stock
market. Credit derivatives didn't help corporate earnings much, but
they helped stock prices a lot, so both P/E1 and P/E10 show huge
bubbles.
So the real moral to the story is this: You can use both P/E1 or
P/E10, but always make sure you're using them consistently, and don't
mix P/E1 and P/E10 results together.
freddyv wrote:
> I just wonder if you are dead right about all of this whether or
> not you will be recognized as the one guy who saw it all coming. I
> doubt it, but at least you will have had the unique experience of
> watching history play out before your eyes, almost as if you had
> written the script.
> Please keep up the good work and know that there is at least one
> person who appreciates what you do.
StilesBC wrote:
> Unfortunately, that's not usually how it plays out. People like
> John are typically blamed for perpetuating fear rather than
> getting things 100% correct. Decades later he might start to get
> some positive recognition. But a positive social mood is a
> prerequisite to accepting past reality. Until then it will be
> nothing but finger pointing.
I very much appreciate the comments. Some days they're the only
things that keep me going.
As I've mentioned several times before, I have a very dark feeling
about what's going to happen to me. I identify closely with the
mythical Cassandra, hated and disbelieved in her predictions, and
then reviled and raped and later killed when the predictions came
true.
Apollo fell in love with Cassandra and gave her the gift of seeing
the future. When she spurned his advances, he cursed her: She could
still prophesy the future, but nobody would believe her. She warned
people not to bring the wooden horse into the city, and predicted that
it would lead to disaster. When her predictions came true, and the
soldiers poured out of the Trojan Horse and massacred most of the
people in the city, Cassandra was reviled and raped.
After the war, Cassandra became a concubine of King Agamemnon.
Agamemnon's wife, who was having an affair herself, laid a trap for
Agamemnon. Cassandra warned him about the trap, but he ignored her
warnings and, as a result, both Agamemnon and Cassandra were killed.
I know that I'm truly one with Cassandra. I expect the worst, a very
dark future, and my only hope is that I don't end up being raped
myself. As it says in Ecclesiastes: "For with much wisdom comes much
sorrow; the more knowledge, the more grief."
Sincerely,
John
