Quantitative Value Research: Cyclically-adjusted P/E (CAPE) Factor

Quantitative Value Research: Cyclically-adjusted P/E (CAPE) Factor

October 3, 2014 Research Insights, Value Investing Research
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(Last Updated On: January 18, 2017)

Stock Prices, Earnings, and Expected Dividends

Core Idea:

Price-earnings ratios and dividend-price ratios are useful for forecasting future stock price changes.

  • The core premise is that valuation ratios will fluctuate within their historical ranges in the future; when a ratio is at an extreme level, it will mean revert, and either the numerator or the denominator are forecastable.
  • Dividend-price ratios are a poor predictor of future dividend growth (R-square = 0.25%); however, dividend-price ratios are a much stronger predictor of future real price changes (R-square = 63%).
  • Price-smoothed-earnings ratios also have special significance.

Alpha Highlight:

Faber (2012) applied this valuation metric across more than 30 foreign markets and finds it both practical and useful. Below are two charts from Faber (2012).

2014-10-02 10_53_04-0Value Reseach Recap.pptx - Microsoft PowerPoint (Product Activation Failed)
The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged, do not reflect management or trading fees, and one cannot invest directly in an index. Additional information regarding the construction of these results is available upon request.
2014-10-02 10_54_15-0Value Reseach Recap.pptx - Microsoft PowerPoint (Product Activation Failed)
The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged, do not reflect management or trading fees, and one cannot invest directly in an index. Additional information regarding the construction of these results is available upon request.

Note: This site provides NO information on our value investing ETFs or our momentum investing ETFs. Please refer to this site.


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Please remember that past performance is not an indicator of future results. Please read our full disclosures. The views and opinions expressed herein are those of the author and do not necessarily reflect the views of Alpha Architect, its affiliates or its employees. This material has been provided to you solely for information and educational purposes and does not constitute an offer or solicitation of an offer or any advice or recommendation to purchase any securities or other financial instruments and may not be construed as such. The factual information set forth herein has been obtained or derived from sources believed by the author and Alpha Architect to be reliable but it is not necessarily all-inclusive and is not guaranteed as to its accuracy and is not to be regarded as a representation or warranty, express or implied, as to the information’s accuracy or completeness, nor should the attached information serve as the basis of any investment decision. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission from Alpha Architect.


Definitions of common statistics used in our analysis are available here (towards the bottom)




About the Author

Wesley R. Gray, Ph.D.

After serving as a Captain in the United States Marine Corps, Dr. Gray earned a PhD, and worked as a finance professor at Drexel University. Dr. Gray’s interest in bridging the research gap between academia and industry led him to found Alpha Architect, an asset management that delivers affordable active exposures for tax-sensitive investors. Dr. Gray has published four books and a number of academic articles. Wes is a regular contributor to multiple industry outlets, to include the following: Wall Street Journal, Forbes, ETF.com, and the CFA Institute. Dr. Gray earned an MBA and a PhD in finance from the University of Chicago and graduated magna cum laude with a BS from The Wharton School of the University of Pennsylvania.


  • Paul Novell

    A CAPE country ETF ranking tool/screen would a useful addition to your DIY Quant section.

  • great idea!

  • Doug

    Seconded.

  • Sam Y

    This makes me wonder about Alpha Architect QV real 10-year CAGR vs 10-year Shiller PE. Have you looked at that?

  • Hey Sam,
    We try and avoid directly talking historical performance about QV. All I can say is that 10-year Shiller P/E–as a security selection device–is not the best tool in the toolkit.

  • Sam Y

    Thanks!

  • Doug01

    About using CAPE to stock pick, in your book “Quantitative Value”, you found that it didn’t help. I’m reading Behavioural Investing” by James Montier. He does a similar analysis using the MSCI World Index from 1980-2005. At the start of each year, deciles were formed and their performance measured over the next 12 months. Negative PEs were excluded, and cyclically adjusted PEs below 1 were excluded. If a company didn’t have a full set of earnings, they computed the PE based on the maximum amount of data that was available. Stocks were held for one year, and there was annual rebalancing. If you chose the cheapest decile based on last year’s trailing PE, you outperform by 5.5%. But if you average the last 3 years earnings, you outperform by 10%. They also looked at averaging the last 5 years (11% outperformance), 7 years (12%) and 10 years (13%)