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Price isn’t everything, but when it comes to investing it can count for a lot.
While many professional investors caution against attempts to time the market, they also tend to highlight that getting in at a good price is important.
In simple terms, if you buy something when it is at a lower price, there is more headroom to make a profit (and potentially less opportunity for a loss).
One way of measuring valuation is the cyclically adjusted price to earnings or CAPE ratio (also known as Shiller PE after its creator US economist Robert Shiller). This is a measure of how expensive a market or share is against the profits it has generated over time.
CAPE divides current market price by an average of annual earnings across a number of years, typically ten. The theory is that is not skewed by whether the economy is doing well or badly – so it smooths out economic cycles – and so is useful for valuation comparisons over time.
When a country’s CAPE ratio is high, compared either to its own long-run average, or other countries, the market is judged to be expensive.
This is only one valuation metric, others include a simple price to earnings ratio, price to book and the dividend yield. It’s not perfect, but it is a guide and starting point for your research before investing (or not). The table above comes from Research Affiliates, which compiles Shiller PE / CAPE information and the data is accurate to the end of the first quarter of this year (31 March 2017).
