Changing Times, Changing Values: A Historical Analysis of Sectors within the US Stock Market 1872-2013
We construct a price, dividend, and earnings series for the Industrials sector, the Utilities sector, and the Railroads sector from the beginning of the 1870s until the beginning of the year 2013 from primary sources. To infer about mispricings in the sector markets over more than a century, we investigate the forecasting power of the Cyclically Adjusted Price-Earnings (CAPE) ratio for these sectors. With regard to the CAPE ratio, which has originally been devised and employed by Campbell and Shiller (1988, 1998, 2001) as well as Shiller (2005), we define a methodological improvement to this ratio to not only be robust to inflationary changes, but also to changes in corporate payout policy. We then update the original evidence from Campbell and Shiller (1998, 2001) of the return predictability of the CAPE ratio for the overall stock market and furthermore extend this evidence to the three forementioned sectors individually. Whereas this part of our analysis focuses on each sector of the US economy in isolation, we subsequently construct an indicator from the CAPE ratio that enables us to perform valuation comparisons across sectors. In addition to establishing the prediction of subsequent return differences based on differences in the CAPE-based valuation indicator, we also suggest a hypothetical, historical, and simple value investment strategy that rotates between the three sectors based on the valuation signals derived from the CAPE-based indicator, generating slightly more than 1:09% annualized, inflation-adjusted excess total return over the market benchmark during a period of nearly 110 years.
We thank Barclays Bank PLC for partial financial support of this project. There exists a collaboration with Barclays Bank PLC on ways through which the Cyclically Adjusted Price Earnings (CAPE) ratio, a valuation measure that also plays a prominent role in this paper, may be implemented in an investment. The views herein are those of the authors', and do not necessarily reflect the views of Barclays Bank PLC nor those of the National Bureau of Economic Research.
Robert J. Shiller
September 16, 2012
Disclosure of Outside Activities
Robert J. Shiller
List of activities outside principal Yale University employment since 2008.
Currently engaged in the development of a stock market index family with Barclays Investment Bank, a division of Barclays PLC, in London, based on my research on time series properties of stock prices: http://media.bloomberg.com/bb/avfile/rfc4sPIrGvHg.
In addition to academic lectures and talks, represented by a speakers bureau, The Leigh Bureau, Bridgewater NJ, for for-fee talks.
Boards and Advisory panels
Competitive Markets Advisory Council, CME Group (formerly Chicago Mercantile Exchange), Chicago IL
Index Committee for the S&P/Case-Shiller Home Price Indices, Standard & Poor’s (unpaid)
“Understanding Inflation-Indexed Bond Markets,” with John Campbell and Luis Viceira, Brookings Papers on Economic Activity, 2009, NBER Working Paper #15014, 2009.
Column “Finance in the 21st Century” (every other month, alternating with Howard Davies, London School of Economics), Project Syndicate
Column “Economic View” (every five weeks, alternating with four other columnists), New York