CAPE Ratio (Shiller P/E Ratio)

Definition
The CAPE ratio, also known as the Shiller P/E ratio, evaluates a stock by using its current share price divided by the 10 year average of inflation adjusted earnings (to adjust for economic cycles). (Kenton, 2024)

CAPE = Current Share Price ÷ 10-Year Average Inflation-Adjusted EPS

Why It Matters
The CAPE ratio gives investors insight into whether markets (stocks or broad equity indexes) are undervalued or overvalued based on historical earnings data. (Kenton, 2024) It is popularised by economist Robert Shiller, and its strength holds in its ability to average real earnings per share (EPS) over 10 years to adjust for economic cycles.

Economic cycles, per Investopedia, greatly affect a company’s profitability. Amid an expansion, profits increase because consumers spend more money, however amid a recession, consumers buy less, profits drop, and can turn into losses. (Kenton, 2024)

Investopedia notes that these profit swings are larger in cyclical sectors like commodities and financials, compared to more stable areas like utilities. (Kenton, 2024) Most companies however have great difficulty to remain profitable during “deep recessions".

A higher CAPE ratio “means there is a wide gap between company earnings and their stock prices, reflecting outsized investor expectations [and optimism].” (Neufeld, 2025)

Example
Data from Ycharts.com shows the S&P500 Shiller Cape ratio is at 36.48 (as of writing; April 2026), down from 37.24 last month and up from 32.62 one year ago. This is a change of -2.03% from last month and 11.84% from one year ago. (S&P 500 Shiller CAPE Ratio, n.d.)

Limitations
- The CAPE ratio looks at past data instead of future trends
- Relies on GAAP earnings; accounting results that may contain errors
- The results for the S&P500 CAPE ratio have been skewed by the magnificent seven

As John Rekenthaler, vice president of research for Morningstar said it, "it's one thing to construct forecasts after the fact, when viewing the established history, but quite another to do so before the data arrives." (Kenourgios et al., 2021)

Why is the CAPE ratio elevated, and is it justified?
The CAPE ratio is certainly high, but it could be justified; the US has become the world's dominant economy and that could "justify an increasing earnings multiple for U.S. stocks" says Rob Arnott, CEO of Research Associates. (Kolakowski 2023)

In addition to this, there have been stricter financial reporting guidelines imposed; one article by Investopedia says the "quality of reported earnings today is arguably much higher than in 1929," and there was also the establishment of the Securities and Exchange Commission in 1934. "This has probably helped lift the CAPE by increasing confidence in U.S. markets." (Kolakowski 2023)

What is the takeaway from this? Should we follow what history has shown us and fret over an incoming market correction, due to a high CAPE ratio, or should we trust that current market prices are justified?

Further
Read more here.

References:

Jennewine, T. (2025, August 17). The Stock Market Flashes a Warning Seen During the Dot-Com Bubble. History Says the S&P 500 Will Do This Next. Yahoo Finance. https://finance.yahoo.com/news/stock-market-flashes-warning-seen-080200859.html

Kenourgios, D., Papathanasiou, S., & Bampili, A. C. (2021). On the predictive power of CAPE or Shiller’s PE ratio: the case of the Greek stock market. Operational Research, 22(4), 3747–3766. https://doi.org/10.1007/s12351-021-00658-x

Kenton, W. (2024, July 9). Understanding the CAPE Ratio. Investopedia. https://www.investopedia.com/terms/c/cape-ratio.asp

Kolakowski, M. (2019). Why The 1929 Stock Market Crash Could Happen In 2018. Investopedia. https://www.investopedia.com/investing/1929-stock-market-crash-could-happen-again/

Neufeld, D. (2025, February 14). The Bubble Indicator: Is the Stock Market Overheating? Visual Capitalist. https://www.visualcapitalist.com/sp/the-bubble-indicator-is-the-stock-market-overheating/

S&P 500 Shiller CAPE Ratio. (n.d.). Ycharts.com. https://ycharts.com/indicators/cyclically_adjusted_pe_ratio

Scotchmer, L. (2025). Waiting for the next big dip: Why the CAPE ratio is important. Polonomic Papers. https://polonomicpapers.com/waitingforthenextbigdip