Stock Market Valuation

Mark Thoma had a tweet asking if the stock market is  in a bubble.

I do not think so.

The market PE  on trailing operating earnings is 15.5 and my model says that based on the historic relationship to interest rates and inflation the market PE should be 21.5%.

Obviously, either the market does not believe rates will stay this low and are using a higher interest rate or they expect  long-run trend earnings to slip far below the long run trend of  7%   The market PE is an expression of the present value of expected long-run earnings growth.  The long term historic average for the market PE is 15, almost exactly where it is now.  Of course there is no central tendency for the market to converge on a PE of 15.  If you do a histogram of the market PE you will find that the probability of the PE being on any number between 10 and 20 is about the same.


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Maybe we just need to look at the market from a simpler perspective.

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