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Weekend Stock Market Analysis

(12/1/12)

Well here we are with only 30 Days to go until the end of the year.  I haven't talked about Shiller's PE Ratio in awhile so let's take a look at the chart which goes all the way back to the late 1880's involving the Inflation Adjusted S&P Composite.  The historical Average PE Ratio has been around 15 as denoted by the brown line.  Overall major Bear Market Bottoms in the past haven't occurred in the Inflation Adjusted S&P Composite until the PE Ratio has dropped below the "7" level as denoted by the green line.  The most recent event was back in the early 1980's (point A) followed by two others in the early 1930's and early 1920's (points B).  Meanwhile notice back in March of 2009 when the S&P Composite bottomed the PE Ratio dropped just below the long term mean (point C) so it didn't reach a level that has signaled major Bear Market Lows in the past.   Thus one can conclude that either Shiller's PE Ratio will be wrong this time around or the Inflation Adjusted S&P Composite hasn't made a major Bear Market Low.     

Another thing to notice is the long term upward channel in the Inflation Adjusted S&P Composite as denoted by the black lines.  As you can see the bottom of the upward channel connects the early 1930's low with the early 1980's low while the top of the upward channel coincides with the late 1920's high and late 1990's high.  My guess would be if Shiller's PE Ratio is going to end up being right, and eventually drop below the "7" level, then the Inflation Adjusted S&P Composite will come close to retesting the bottom of its longer term upward channel at some point in the future.           

The last thing to consider is that when periods of high inflation occur this can have a dramatic affect on what a normal chart looks like versus an Inflation Adjusted one.  If we overlay the Inflation Adjusted S&P Composite (green) with the typical non Inflation Adjusted S&P Composite (red) one can see significant differences at times.  For example from the late 1970's through the early 1980's the Inflation Adjusted S&P Composite trended lower (points D to E) while the non Inflation Adjusted S&P Composite actually moved higher (points F to G).   A similar pattern also occurred back in the early 1900's as the Inflation Adjusted S&P Composite made substantially lower Lows (points H to I) while the Non Inflation Adjusted S&P Composite traded generally sideways for several years (points J to K).   Thus it's entirely possible in the future the Inflation Adjusted Composite could drop back below the March 2009 low while the Non Inflation Adjusted S&P Composite does not.    

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