The S&P 500 Cyclically Adjusted Price Earnings Ratio (S&P500 CAPE) Update - June 2013

This is the monthly review of the S&P500 including a couple of S&P 500 valuation metrics.  Last month’s review can be found here.

S&P500 Price

At market close on Friday the S&P500 was Priced at 1,627.  That is a fall of 0.8% when compared with 1,640, which is the average closing Price of each trading day last month.  It is 22.9% above last year’s June monthly Price of 1,323.  Note that for this index I only look at monthly average Prices as opposed to hourly or daily as I’m a very long term investor and just don’t need the noise associated with more granularity.  I’ll leave that for the traders out there.

We can then look at how this Price compares to history which is shown in the chart below.

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This is a similar chart to that which you will see in many places within the mainstream media when displayed over a long term.  It looks sensational and in my opinion isn’t very helpful.  Let’s therefore adjust it to the chart below where I try to show what is really going on with Prices.  I make two adjustments:

• Correct the chart for the devaluation of the US Dollar through inflation.  
• Show the Pricing on a logarithmic scale as opposed to a linear one.  By using this scale percentage changes in price appear the same.  For example let’s say we have two historic prices of 10 and 100.  If they both increase in price by 10% then they increase by 1 and 10 respectively.  On a linear scale it would appear as though the second has increased by a factor of 10 more than the first where on a logarithmic scale they will appear to have changes the same.  Less sensational but more correct. 

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S&P500 Earnings

As Reported Nominal Annual Earnings (using a combination of actual and estimated earnings) are currently $90.96.  That compares with this time last year at $87.92 implying earnings growth of 3.5% year on year.  Or course this looks better than it really is as inflation flatters the result.  I therefore plot a chart below, again on a logarithmic axis, showing Real (inflation adjusted) Earnings performance over the long term.

The Regional House Prices of England & Wales

The Land Registry House Price dataset uses repeat sales regression on houses which have been sold more than once to calculate an increase or decrease in price.  As it analyses each house and compares the latest buying price to the previous buying price it is by definition mix adjusting its data also.  This is then combined with a Geometric Mean price which was taken in April 2000 to calculate the index.  It is seasonally adjusted and covers properties from England and Wales.  It covers buyers using both cash and mortgages.

If we look at April 2013 for all of England & Wales it tells us that house prices were £161,458 which month on month is an increase of 0.4% and year on year is an increase of 0.7%.  If this was published in the mainstream media readers would think house prices are still rising.

The chart below then plots the complete Land Registry dataset for England & Wales since January 1995.  Analysis of this chart would make readers think that prices weren't in fact rising but had actually been stagnant for a number of years now.

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This however really doesn't tell the full story.  Cutting the data by Regional House Prices reveals the chart below.

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To enable some analyse of this regional dataset let’s convert each region into an Index that starts at 100 on January 1995. Now we’re getting somewhere.  England & Wales House Prices can now be characterised by 3 distinct regional variations.  London is a law unto itself with prices up 400% since January 1995.  They also look to be continuing to head northward.  The House Prices of the South East, South West and East Anglia have stagnated with prices up 280-290% since January 1995.  House Prices are then falling, and have been for some time, if you’re in the North, North West, Yorks & Humber, East Midlands, Wales or the West Midlands.

A Simple Low Expense, Low Tax Investment Portfolio for DIY Beginners

There are about as many investment strategies and investment options as there are investors. I also believe that many of these are offered because the people behind them have already worked out that it is in their favour to offer them but I am sometimes accused of being cynical. I don’t actually begrudge them for this as we all have to make a living in this increasingly complex world but I do have a problem with how some products and services are made to sound more complex than perhaps they should which the cynic in me again believes is being used to deter people from going DIY.

I think back to 2007 when I first realised that for the first 12 years of my life I had been working for everybody but myself. And if I didn't start taking responsibility for my own future quickly I was going to end up with little more than a State Pension (or some other form of welfare) that would be provided at an age chosen by the government of the time. I needed to start saving and investing without further delay.

I did what the mainstream world tells us all to do. I spoke with Financial Planners who I believe in hindsight were making what they were offering sound more complicated than it needed to be. I also read about what looked like complex investment products which would not only give me a fantastic return but would in some instances possibly even put man on the moon.  I'm possibly even guilty of it when I talk about my own low charge strategy and some of the other concepts we cover on this site. I think it’s a simple concept but thinking back to what I knew when I first started down this road it would have been nothing short of confusing. Of course the difference is that I don’t get wealthy at your expense. I'm not for a minute suggesting that there is anything illegal or misleading going on but I am glad that I went DIY as I believe that I would have had no better return plus I've saved on all the fees and expenses which are now part of my wealth which is compounding nicely.

Since going DIY I am happy with progress however one area I know I went wrong is during the first couple of years when I knew nothing and was trying to learn. This period of time definitely cost me and while I don’t regret it as it taught me what I know today, thinking back I really should have just used the KISS rule until I’d educated myself. So let’s do that today and try and build a simple portfolio and strategy which could maybe tide a DIY investing beginner over until they were ready for more complexity. When they are finally ready they probably won’t even have to sell but instead could just build upon what would then be a core holding and if they were never ready then they’d still likely do ok.

I’m Buying Gold (Gold Priced in British Pounds – May 2013 Update)

Gold when priced in USD’s closed on Friday at a nominal $1,388.30.  Convert that into GBP’s and you’re looking at a Nominal Gold Price of £912.53.  Staying in Sterling that is a Nominal Gold month on month price fall of 5.9% and a year on year price fall of 8.4%.  The chart below shows the Nominal Monthly Gold Price in £’s since 1979.

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If we then adjust this Gold chart for the continual devaluation of Sterling through inflation we can see Real Gold Prices which are shown in the chart below.  If this is of particular interest then you might also be interested in understanding if Gold can protect UK Investors from inflation.   The key Real Monthly Gold Price metrics are:

• Real Gold Peak Price was £1,199.2 in January 1980.  At £912.53 we are 23.9% below that peak today.
• The long run average is £542.96 which is therefore still indicating a very large potential overvaluation.
• The trendline indicates the Real Gold Price should today be £506.36 which would indicate even further overvaluation.  

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I aim to hold Gold within my own Low Charge Portfolio.  This isn't because I wear a tin foil hat or think that the world is about to go all Mad Max.  It’s because I want to hold commodities within my portfolio as they have a different correlation with my other asset classes and Gold (unlike many commodities for investors) if bought correctly is one commodity that won’t suffer from contango or backwardation.

Valuing London Property at Borough Level

The mainstream media usually report UK House Prices at a national level.  Recently we went one level deeper by examining English and Welsh property at County Level however this data left an elephant in the room.  That elephant was London, a small village located in the South East of England with a population of 8.2 million, and one which was included as a single data point.  Today let’s go deeper into London and look at the Salaries, House Prices and Value of each London Borough.

To Value the London market by borough we will maintain consistency with our previous definition which is a simple Price to Earnings Ratio (P/E).  As with the County level analysis we will use the Land Registry House Price Index for prices.  We’ll stay with calling high house prices bad (the Borough with the highest average house price, unsurprisingly, is Kensington & Chelsea at £1,104,770 and is shown in dark red) and low house prices good (the Borough with the lowest house price is Barking & Dagenham at £213,581 and is dark green) with all other prices shaded between red and green depending on house price.  What I find amazing is that Barking & Dagenham, the cheapest Borough, is still 32% more expensive than the England and Wales average.

For Earnings we’ll also stay with the 2012 Annual Survey of Hours and Earnings (ASHE) which provides information about the levels, distribution and make-up of earnings and hours paid for employees within industries, occupations and regions in the UK.  To ensure that our Earners and Houses are located within the same Borough we’ll use the Earnings by Place of Residence by Local Authority.  We again multiply the data by 52 weeks to convert it to an annual salary.  We stay with calling low earnings bad (the lowest average earnings are £19,183 in Newham which surprisingly is only 8% higher than the lowest County which was Blackpool and is shown in dark red) and high earnings good (the highest average earnings are £59,441 in Kensington and Chelsea and is dark green) with all other earnings shaded between red and green depending on earnings.