Tags: Shiller | stocks | valuation | CAPE

Shiller: There's Still Time to Invest in Stocks, 'But Don't Expect Miracles'

By John Morgan   |   Friday, 13 Sep 2013 10:17 AM

Yale economist Robert Shiller says it may not be too late to buy into the stock market, but investors should not expect much higher returns from here because valuations, like a seven-layer cake, are a bit rich.

Shiller uses his own method, the cyclically adjusted price-to-earnings ratio (CAPE), to put a value on overall equities. CAPE compares the price of the market to inflation-adjusted returns from the past 10 years.

Right now, it shows the market is now valued at 24 times earnings.

Editor’s Note:
5 Reasons Stocks Will Collapse . . .

That figure is considerably above CAPE's average reading of 16, making stocks fairly expensive. Often when stocks get overly expensive, they eventually tend to decline in price so as to revert to the norm.

The current CAPE reading is "high by historical standards, but it's not super high. I'd say it's suggesting — based on historical evidence — real returns of something like 3 percent a year for the next decade," Shiller told CNBC.

"It's not bad, considering the alternatives right now," he added.

"I'm not saying don't invest in stocks. But don't expect miracles."

In a battle of blue-chip economists, Wharton professor of finance Jeremy Siegel recently charged in the Financial Times that the CAPE stock valuation model produces "overly pessimistic predictions" based on "biased earnings data."

Siegel is touting an alternative stock valuation method using the after-tax profits reflected in the government's national income and product accounts (NIPA).

"When NIPA profits are substituted for S&P reported earnings in the CAPE model, the current market shows no overvaluation," Siegel wrote.

The two economists' rival models show Shiller predicts that stocks are relatively expensive, while Siegel predicts stocks could hit 18,000 by the end of 2014.

Meanwhile, Wall Street's commonly used 12-month trailing price-earnings ratio shows the market is now valued at 19 times earnings, not overly far from the historic average of 15.

However, financial site ZeroHedge, known for often taking a skeptical economic view, offered an opinion from Phoenix Capital Research that there may be simpler ways to determine when the stock market is in unsteady territory.

Phoenix suggested there are "clear signs" that a top is forming in stocks and that multiple warning signs are flashing.

"First and foremost, the number of stocks that continue to break to new highs is contracting sharply. This means that fewer and fewer stocks are breaking out to new highs while the market continues to surge higher. In other words, the market rally is being driven by fewer and fewer companies."

Phoenix also concluded that Wall Street "smart money" has been selling stocks hand over first in recent months, and that institutional sellers in particular have been bailing out of the market at a pace not seen since the first half of 2008 — just before the financial meltdown.

"Among the financial institutions that are dumping stocks include Apollo Group, Blackstone Group and Fortress Investment Group," Phoenix said. "These groups are not only selling themselves, but have been urging their high net worth clients to sell stocks as well."

Editor’s Note: 5 Reasons Stocks Will Collapse . . .

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