Today the CAPE ratio for the overall market stands at about 27, while the long-term historic average is about 15. Over the past 20 years, in fact, the ratio has been above the historic average most of the time. (A major exception was after the market crash in 2009, when it reverted to the average.) The question now is whether the market has been overvalued for most of the last two decades or high valuations are the “new norm.”

Shiller doesn’t have a sure answer. “Interest rates have been unusually low for a long time, and that’s helped support the stock market and higher CAPE ratios,” he says. “Is this the new normal? Will interest rates remain low indefinitely? I don’t know. But I’m naturally skeptical about saying that the CAPE won’t eventually revert to the average.”

He points out that the ratio is about the level it was in 2007, just before the market crash. “I’m not saying there’s going to be another market crash,” he says. “But the high CAPE is certainly cause for concern. It’s a sensible measure of overpricing.” He adds that in the current environment, “it makes sense to lean against sectors that are highly priced.”

Fund manager Jeffrey Sherman views the CAPE ratio as more of a beacon than a road map. “The CAPE ratio is just like any other valuation metric,” he says. “It doesn’t have 100% precision when it comes to forecasting ability. But I consider it to be one of the better predictors of future stock market returns over intermediate to long-term time horizons.” 



 

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