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Additional assets 41041

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Additional assets 41040

chart8
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– January 12, 2017

Recent stock gains reflect high expectations for the year ahead.
The Standard & Poor’s Composite Index of 500 Stocks rose 9.5 percent in 2016, with about half the gain coming after the Nov. 8 presidential election. That relatively strong performance has raised concerns that the U.S. equity market may be overvalued. While there are numerous ways to measure valuations, by two of the more commonly accepted metrics, the U.S. equity market looks to be near the high end of normal historical ranges, neither excessively overvalued nor excessively undervalued.

The first valuation metric we examine is the S&P 500 price-to-forward-earnings ratio. It compares the current S&P 500 price index to the expectation for S&P 500 earnings 12 months from now. At a ratio of 16.9, the valuation is at the middle of the range for the past 20 years (Chart 8). The second metric is the S&P 500 12-month forward-earnings yield (earnings divided by price, the inverse of the price-to-earnings ratio). The earnings yield is compared with the yield on corporate bonds (Chart 9). By this metric, equities with a forward-earnings yield of 5.9 percent look to be a better value than corporate bonds, which have a current yield of 4.8 percent.

No valuation metric is perfect, but analyzing and monitoring a variety of valuation metrics can give some reassurance to investors. 

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