On the predictive power of CAPE or Shiller’s PE ratio: the case of the Greek stock market

What is it about?

This paper examines the capability of the Cyclically Adjusted Price to Earnings (CAPE) or Shiller’s PE ratio, along with other relative valuation ratios such as P/E and P/BV, to predict future returns of the FTSE/ASE Large Cap Index from the development of the index (1997) to December 2018. We have herein used several regression models in order to examine the relationship between the above ratios and the future returns of 1, 3, 5 and 10 years. We show that, while P/E and P/BV ratios are not correlated to future returns, CAPE ratio and its variation CAPE5, which uses five years’ real earnings, are efficient estimators of future returns. Our results imply the informational inefficiency of the Greek Stock Market.

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Why is it important?

This paper examines the capability of the Cyclically Adjusted Price to Earnings (CAPE) or Shiller’s PE ratio, along with other relative valuation ratios such as P/E and P/BV, to predict future returns of the FTSE/ASE Large Cap Index from the development of the index (1997) to December 2018. We have herein used several regression models in order to examine the relationship between the above ratios and the future returns of 1, 3, 5 and 10 years. We show that, while P/E and P/BV ratios are not correlated to future returns, CAPE ratio and its variation CAPE5, which uses five years’ real earnings, are efficient estimators of future returns. Our results imply the informational inefficiency of the Greek Stock Market.

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