&l;img class=&q;size-full wp-image-927&q; src=&q;http://blogs-images.forbes.com/robisbitts2/files/2018/05/f-soc-img-1.jpg?width=960&q; alt=&q;&q; data-height=&q;566&q; data-width=&q;850&q;&g;&l;strong&g;Professor Robert Schiller&a;rsquo;s CAPE Index causes different investors to hear different signals from the stock market&l;/strong&g;
I am usually the last to find out about a new social media craze.&a;nbsp; Whether it is the Ice Bucket Challenge, the color of a dress, or the latest &a;ldquo;what do you hear, Yanny or Laurel&a;rdquo; thing, it takes flight without my knowledge.&a;nbsp; So, if you are not familiar with the Yanny vs. Laurel debate, you are way, way behind and I suggest you Google it before moving ahead in this article.&a;nbsp; I&a;rsquo;ll wait&a;hellip;
&l;img class=&q;size-large wp-image-928&q; src=&q;http://blogs-images.forbes.com/robisbitts2/files/2018/05/f-1-1-1200×708.jpg?width=960&q; alt=&q;&q; data-height=&q;708&q; data-width=&q;1200&q;&g;
OK, so now that we are all familiar with the audiological debate about Yanny and Laurel, let us turn our attention to a war of perspective that has been around since way before Yanny and Laurel started competing for votes.&a;nbsp; In fact, it has been around nearly as long as the &a;ldquo;glass half full vs. half empty&a;rdquo; analogy, which is essentially what the stock market&a;rsquo;s crowd has been doing regarding market valuation.
Pictured above is the CAPE Index, made famous by Robert Shiller, the Yale professor who noted that if you smooth the price-earnings ratio of the U.S. stock market by using multiple years&a;rsquo; earnings instead of just last year&a;rsquo;s or next year&a;rsquo;s, and if you account for the impact of inflation on earnings, you get quite an accurate indicator of market risk.&a;nbsp; Or do you?&a;nbsp; That is the debate, and it is especially important to understand both sides of that argument in today&a;rsquo;s market climate.
To summarize, some look at the CAPE&a;rsquo;s level of greater than 31 times earnings and note that it has only been higher once in its history, which dates to the late 1800s.&a;nbsp; That one time was the Dot-Com Bubble of the late 1990s.&a;nbsp; The current CAPE is right about where it was just prior to the 1929 Crash&a;hellip;let that sink in a minute.
&l;strong&g;Market bulls will counter that they hear something completely different from the gloom-doomers described above.&l;/strong&g;
The sky is not about to fall, they say.&a;nbsp; Rather, they note that the economy today is more global than ever, interest rates are low, and corporate earnings are strong.&a;nbsp; At the very least, they suggest, the CAPE has room for upside as the Trump tax cut filters through the system.&a;nbsp; Following all of that, the idea that a new high in the CAPE could be in our foreseeable future could mean that the current stock bull market has another 30-50% advance potential left.&a;nbsp; CAPE bears agree with that 30-50% range, but with a big minus sign in front of it, based on prior market declines following price advances like we have seen the past 9 years.
Which is it?&a;nbsp; We don&a;rsquo;t know yet. It could even end up in between.&a;nbsp; Perhaps the CAPE and the market camp out in this area for years.&a;nbsp; Our goal is not to guess, but to evaluate what we see and hear, and make decisions about our investment objectives which are consistent with the reward/risk tradeoff we perceive.&a;nbsp; Anything else would be just guessing or speculation.
Like Yanny and Laurel, the market&a;rsquo;s bulls and bears on CAPE hear different things despite the physical &a;ldquo;evidence&a;rdquo; being the same to both.&a;nbsp;How they process it and position for it will produce outcomes that could make a huge difference in the lives of millions of retired and pre-retired investors.&a;nbsp; Because if your portfolio does happen to drop by 50%, it doesn&a;rsquo;t matter to you if you call it half-full or half-empty.&a;nbsp; Either way, half your fortune is gone.