From my web site:

Why Use P/E10?

Professor Robert Shiller came up with P/E10 as his measure of valuation. It is spectacularly successful. Its reciprocal, the percentage earnings yield 100E10/P, does the best job in predicting stock market returns and retirement financial success of all the measures that I have tested. Close contenders include the dividend yield equivalent 100D10/P and Tobin’s q.

P/E10 captures both the INVESTMENT RETURN and the SPECULATIVE RETURN of the stock market. The INVESTMENT RETURN equals the initial dividend yield plus the growth rate of the dividend amount. P/E10 or more specifically 100E10/P captures the initial dividend yield since dividends come out of (smoothed) earnings. The dividend growth rate of stocks overall (S&P500) has been remarkably stable at 5%. The SPECULATIVE RETURN reflects the effect of changing valuations. P/E10 and its reciprocal 100E10/P capture this effect as well.

A regression analysis (linear curve fit) shows that the percentage earnings yield 100E10/P estimates both Stock Returns and Historical Surviving Withdrawal Rates exceptionally well.

P/E10 or more specifically 100E10/P does a fantastic job of predicting what happens ten years from now (or even longer). What about the next year or two? It does not work in the short term. There is too much randomness for reliable prediction.

Is P/E10 usable over long periods of time? The answer is a resounding YES. You can wait twenty years on the sidelines and still be better off. It is that powerful.

Sensible use of P/E10 embraces gradually shifting stock allocations. It avoids all-in and all-out decisions. Rob Bennett named this Valuation Informed Indexing (VII or Lucky 7). It works with individual stock segments and with the stock market as a whole (S&P500).

Have fun.

John Walter Russell

Indeed, JWR, why use P/E10?

Would using whatever P/E10 is answer the question that the poster jdg1947 recently asked on this forum about investing in GE?

Would using whatever P/E10 is have caused me to not buy some GM baby bonds last week at a 15% yield?

I don't know the answer to any of these questions so I am curious as to what you think?  I can tell you that I do not believe that there is any statistical tool or model or theory that could possibly convince me to "wait twenty years on the sidelines" in the expectation that I'm going to be better off but I'm listening . . . . .

Regards.

Cliff

Would using whatever P/E10 is answer the question that the poster jdg1947 recently asked on this forum about investing in GE?

Would using whatever P/E10 is have caused me to not buy some GM baby bonds last week at a 15% yield?

It is a matter of personal preferences.From Normal 0 false false false EN-US X-NONE X-NONE /* Style Definitions */ table.MsoNormalTable {mso-style-name:"Table Normal"; mso-tstyle-rowband-size:0; mso-tstyle-colband-size:0; mso-style-noshow:yes; mso-style-priority:99; mso-style-qformat:yes; mso-style-parent:""; mso-padding-alt:0in 5.4pt 0in 5.4pt; mso-para-margin-top:0in; mso-para-margin-right:0in; mso-para-margin-bottom:10.0pt; mso-para-margin-left:0in; mso-pagination:widow-orphan; font-size:11.0pt; font-family:"Calibri","sans-serif"; mso-ascii-font-family:Calibri; mso-ascii-theme-font:minor-latin; mso-fareast-font-family:"Times New Roman"; mso-fareast-theme-font:minor-fareast; mso-hansi-font-family:Calibri; mso-hansi-theme-font:minor-latin;}

Now that P/E10=23

Normal 0 false false false EN-US X-NONE X-NONE /* Style Definitions */ table.MsoNormalTable {mso-style-name:"Table Normal"; mso-tstyle-rowband-size:0; mso-tstyle-colband-size:0; mso-style-noshow:yes; mso-style-priority:99; mso-style-qformat:yes; mso-style-parent:""; mso-padding-alt:0in 5.4pt 0in 5.4pt; mso-para-margin-top:0in; mso-para-margin-right:0in; mso-para-margin-bottom:10.0pt; mso-para-margin-left:0in; mso-pagination:widow-orphan; font-size:11.0pt; font-family:"Calibri","sans-serif"; mso-ascii-font-family:Calibri; mso-ascii-theme-font:minor-latin; mso-fareast-font-family:"Times New Roman"; mso-fareast-theme-font:minor-fareast; mso-hansi-font-family:Calibri; mso-hansi-theme-font:minor-latin;}

What if you are an income investor? Or what if you are a dividend blend investor? Your strategy allows you to invest fully at all times. Yet, you may wish to wait for even better bargains.

I like the idea of adopting more than one approach. I like the idea of owning some high quality dividend payers, possibly as part of a dividend blend. I like the idea of keeping most of your money on the sidelines. But that is a matter of personality. Whatever you do, be sure that you can live with it: whether the market continues down sharply or if it recovers and shoots up for a season.

I do not believe that there is any statistical tool or model or theory that could possibly convince me to "wait twenty years on the sidelines" in the expectation that I'm going to be better off but I'm listening . . . . .

Actually, I recommend a minimum allocation of 20%. But you can get away with cutting back to zero under certain conditions (that apply at this moment).

Have fun.

John Walter Russell

Would using whatever P/E10 is answer the question that the poster jdg1947 recently asked on this forum about investing in GE?

Would using whatever P/E10 is have caused me to not buy some GM baby bonds last week at a 15% yield?

It is a matter of personal preferences.

I like the idea of adopting more than one approach. I like the idea of owning some high quality dividend payers, possibly as part of a dividend blend. I like the idea of keeping most of your money on the sidelines. But that is a matter of personality. Whatever you do, be sure that you can live with it: whether the market continues down sharply or if it recovers and shoots up for a season.

I do not believe that there is any statistical tool or model or theory that could possibly convince me to "wait twenty years on the sidelines" in the expectation that I'm going to be better off but I'm listening . . . . .

Actually, I recommend a minimum allocation of 20%. But you can get away with cutting back to zero under certain conditions (that apply at this moment).

Have fun.

"It is a matter of personal preferences."

My guess is that most of us can sign up to that.

"Whatever you do, be sure that you can live with it: whether the market continues down sharply or if it recovers and shoots up for a season."

Yep, that makes sense to me, also.

"I recommend a minimum allocation of 20%. But you can get away with cutting back to zero under certain conditions (that apply at this moment)."

Nope, no way John.  At THIS moment (and maybe for some many moments to come), my inclination is not to cut back to zero or to cut back at all - that means selling, right?  My inclination is to buy when prices are low and yields are high.

Regardless of 5 or 10 or 50 years worth of relationships between overall market prices and overall market earnings, my theory is that if I want to invest in a specific quality business that has been around a while and that pays dividends and the current price of that business is such that the current price to earnings multiple is below its historical levels (which means its current dividend is above its historical levels), then ipso facto and whoop-de-doo, that's a buy, not a 'cut back.'

Regards.

Cliff

Edit:  Sorry for the garbled mess.  Can't get it to look decent.

JWR, this is really eerie... If I'm reading your post properly, P/E10 says keeps 20% or more on the sidelines all the time.

Well, I try to keep 20% in cash and, with my miniscule bond allocations, that usually means about 30% in non-equity. I want that 20% cash... Every single time I *don't* have about 20% in cash, a horrible Black Swan-type event happens where having cash-in-hand is vital. The aftermath of the markets after 9/11 is one horrific example.

Does that mean that I have been somehow practicing a quasi-P/E10 strategy all along? The reason I like that cash level is flexibility. I'm not a Nervous Nellie and cash is not my baby blanket. It's just that whenever I don't keep about 20% in cash, something horrible happens and the market tanks. Then there's a firesale and I need cash but I don't have it and can't raise it -- and I refuse to sell at a loss as a knee-jerk reaction.

I haven't had a chance to explore this stuff yet but, for the benefit of others, here's a link to your website about Shiller's P/E10 and, naturally, for Rob Bennett's valuation informed indexing.     http://www.early-retirement-planning-insights.com/lucky-7.html

Thanks, JWR!

Regards,
Susan

Perhaps I misunderstood John.

All this time I've been thinking he is advocating an 80% cash position - that is, a 20% allocation invested in equities.  And saying that now may be the time to take even that allocation to zero.

John?

Regards.

Cliff

"JWR, this is really eerie... If I'm reading your post properly, P/E10 says keeps 20% or more on the sidelines all the time."

No, Susan, what it means now is a minimum of 80% on the sidelines but he would support 100%.

What is the last date that PE10 would have supported a 70% allocation to equities for at least 1 full year?

best,

Bill

JWR, this is really eerie... If I'm reading your post properly, P/E10 says keeps 20% or more on the sidelines all the time.

I mean that you should maintain at least 20% in stocks at all times.

This is with the traditional S&P500-TIPS kind of investment mix.

Dividend strategies can support up to a 100% stock market investment now.

Keeping some money on the sidelines would allow you to purchase stocks at much, much better prices later.

The non-stock portion should be a TIPS ladder (always a good choice) or preferred stock (better).The biggest issue is converting it into cash to purchase stocks later.

Have fun.

John Walter Russell

What is the last date that PE10 would have supported a 70% allocation to equities for at least 1 full year?

It has been a long, long time. Before year 2000 with an S&P500 index portfolio.

NOTE: I generally talk about portfolio shifts in increments of one year.

A portfolio allocation of 70% to 80% would correspond to P/E10 around 14 or so. With the highest (one third of all) dividend payers, P/E10 would be around 17 or so, if I recall correctly. [I looked at Dividend Stocks in my Current Research section.]

Have fun.

John Walter Russell

John,

If, by chance, you had bought $10,000 each of the current top 10 of Mergent's Dividend Achievers Select on 06/27/2000, the results would be as shown in the table below.

The results aren't great, but they probably beat a money market fund.  It would also be interesting to know what the yield on cost would be today.

I think the PE10 is a valid concept, but I don't know if I will last until it drops below 14.

Data is from MSN Money.

Regards,

Lew

JWR, I am not belittling your P/E10 or 100P/E10 or Rob Bennett's valuation index formula, truly I'm not. I'm sorry, but I'm with Cliff and Lew on this one.

I can't see myself sitting 80% in cash or bonds. No way, Jose. In the quest for the upside, I CAN see myself roaming more broadly into more adventurous areas like international, emerging markets or frontier markets (a little), precious metals and commodities. Inverse or bearmarket funds? Uh-uh. I've already been bitten a few times and I'd rather look for the upside.

I guess I have egg on my face. LOL! Then again, I have been able to find nothing that clearly explains P/E10 or Bennett's valuation indexing... Nothing that clarifies how these methods are calculated or whether it is even possible for a layman like myself to calculate this stuff on my own. I'm sorry, but I cannot place any faith in generalizations. I've tried reading and following the links on your website, but it got too convoluted and I gave up.

The following conservative yet effective strategy is the only thing that leads me to believe that your P/E10 has merit:   In January 2008, I used MSN 401k quick check to help me decide which funds my husband should own in his new 401k... I settled on 80% SAIPX, 10% PEPSX and 10% PIIIX. That mixture of funds and % gave me our preferred allocation of roughly 1/3 domestic equity, 1/3 international equity and 1/3 bond. I experimented with varying % levels of each fund until I found that 80/10/10 was the most optimal combo. I was impressed that holding the bulk of Rick's assets in a very conservative allocation fund of funds combined with international and emerging markets gave him the most growth potential with very little downside... Of course, now that the market has squashed their index funds, I've decided to DCA into one of them over the next 6 months or so and then keep it for another 6-12 months. (The political morass we're facing gives me the heebie-jeebies.)

JWR or Bill, can you give us a link or a whitepaper pdf that will explain P/E10 in plain English? It would help me understand. Thank you!

Regards,
Susan

Correct me if I'm wrong, JWR, but P/E10 is a 10 year average P/E, or related to a 10 year average, possibly weighing later years more heavily.

All of JWRs NON-yield focused work is trying to 'value' the market.  In the sense of predicting future returns, where the majority of the return is share price changes.  At high P/E, for a volatile asset, there is a greater probability of a decrease in P.  At lower P/E, the probability is greater for a share price increase.  IOW, he is trying to give guidance for anyone who wants to buy low, sell high.

Holding a lot of cash, on the sideline, is the recommendation whenever P/Es are high.  That is, Bogle's speculative return isn't in the cards.  Speculative return is an expansion (increase) in the P/E.

If your withdrawal strategy relies on the sale of fund assets (depleting a portfolio, eating seed corn, spending capital), rather then harvesting yield, you are VERY concerned with falling portfolio value (share price depreciation).  JWRs work simply suggests that it's more probable for share prices to fall, at high P/Es, which is devastating to a retirement portfolio.  Keeping a lot of cash, on the sideline, avoids, or at least minimizes, share sales during down market conditions.

JWRs work with P/E10 is statistical and probabilistic in nature.  That's what happens whenever share price behavior is the major issue with a strategy.  And that is the major shortfall of such stratagies, one that doesn't affect yield based strategies.

For example, falling share prices are bad for withdrawal strategies that rely on the sale of assets/realizing capital.  Falling share prices have absolutely no affect, notwithstanding a few opinions expressed on this forum, on yield based withdrawal strategies.  The thing that is bad, for yield based strategies, is falling dividend (and interest, BTW) distributions.

If you look at some of JWRs results, whenever he quotes safe withdrawal rates, based on P/E10, the numbers are always quite low, compared to yield focused strategies.  The reason is the uncertainty in the 'growth' component of total return, which, at times, is negative growth, or falling share prices!

To think of this in more simple terms, a yield based withdrawal strategy has one major rule, that is, withdraw, and spend, no more then the yield of your portfolio, and YOU control that yield, by your choice of assets.  The corresponding 'rule' for a growth focused strategy would be to spend no more then the total return of your portfolio.  The problem is that, in any one year, or series of year, the total return of your portfolio might be negative, that is, it's value, at the end of the year, is less then at the beginning of the year.

JWR1945a:

What is the last date that PE10 would have supported a 70% allocation to equities for at least 1 full year?

It has been a long, long time. Before year 2000 with an S&P500 index portfolio.

NOTE: I generally talk about portfolio shifts in increments of one year.

A portfolio allocation of 70% to 80% would correspond to P/E10 around 14 or so. With the highest (one third of all) dividend payers, P/E10 would be around 17 or so, if I recall correctly. [I looked at Dividend Stocks in my Current Research section.]

Have fun.

John Walter Russell

John,

That is only somewhat helpful....Before 2000 covers a lot of ground.  Can you give me a year when the S&P 500 stayed in the PE10 of 14 or less for an entire year?  For example, what was the PE10 in 1990?

best,

Bill

"JWR or Bill, can you give us a link or a whitepaper pdf that will explain P/E10 in plain English? It would help me understand. Thank you"

Sorry, I'm in the same boat as you on PE10.  John, of course, can help you.

Susan,

 Here are the links.  The first link has tabs at the bottom of the worksheet that contain charts and data tables.

The second link also contains links to Prof. Shiller's website.

http://www.econ.yale.edu/~shiller/data/ie_data.htm

http://www.early-retirement-planning-insights.com/why-PE10.html

Regards,

Lew

I can't see myself sitting 80% in cash or bonds. No way, Jose. In the quest for the upside, I CAN see myself roaming more broadly into more adventurous areas like international, emerging markets or frontier markets (a little), precious metals and commodities. Inverse or bearmarket funds? Uh-uh. I've already been bitten a few times and I'd rather look for the upside.

I take from this that you are NOT withdrawing funds during retirement, but that you are accumulating funds. The two differ somewhat. Your need for safety differs as well.

Have fun.

John Walter Russell

Correct me if I'm wrong, JWR, but P/E10 is a 10 year average P/E, or related to a 10 year average, possibly weighing later years more heavily.

Normal 0 false false false EN-US X-NONE X-NONE /* Style Definitions */ table.MsoNormalTable {mso-style-name:"Table Normal"; mso-tstyle-rowband-size:0; mso-tstyle-colband-size:0; mso-style-noshow:yes; mso-style-priority:99; mso-style-qformat:yes; mso-style-parent:""; mso-padding-alt:0in 5.4pt 0in 5.4pt; mso-para-margin-top:0in; mso-para-margin-right:0in; mso-para-margin-bottom:10.0pt; mso-para-margin-left:0in; mso-pagination:widow-orphan; font-size:11.0pt; font-family:"Calibri","sans-serif"; mso-ascii-font-family:Calibri; mso-ascii-theme-font:minor-latin; mso-fareast-font-family:"Times New Roman"; mso-fareast-theme-font:minor-fareast; mso-hansi-font-family:Calibri; mso-hansi-theme-font:minor-latin;}

P/E10 is the current price (index level) divided by the average of the previous ten years of earnings. Only the latest price. But with smoothed earnings. (All terms are adjusted to match inflation.)

This differs from the average of ten years of P/E values.

Have fun.

John Walter Russell

John,

That is only somewhat helpful....Before 2000 covers a lot of ground.  Can you give me a year when the S&P 500 stayed in the PE10 of 14 or less for an entire year?  For example, what was the PE10 in 1990?

best,

Bill

(I suspect that you should be asking a different question.)

The source for P/E10 data is Professor Robert Shiller’s web site.

http://www.econ.yale.edu/~shiller/

P/E10 below 17 was in 1991.

P/E10 below 14 was in 1988.

January 1990 P/E10 was 17.05.

I do not know for entire years.

Have fun.

John Walter Russell