This past week, the New York Times had an opinion piece titled “Is Wall Street Too Giddy” in which 4 experts gave their view of the current market. Of course the opinion was divided so what’s the individual investor to do?
There is no question that the market is overvalued by historical measures. The PE10 factors in inflation and measures the ratio using a 10 year average of earnings eliminating day-to-day variations. By this measure the current PE10 ratio is 24.7 which is quite a bit higher than the historic average of 16.5. Inevitably this ratio will fall over time to the average which will mean a big decline for the market. Although the market can (and often does) go higher before any big declines, it is bound to fall as the PE ratio falls to it’s long term mean.
In other words, the risks of being fully invested right now far outweigh the potential rewards.
For an excellent analysis of the role of PE ratios in evaluating the investing climate, click here: PE Ratios and Market Evaluation