Key Points

  • The one-factor CAPE model better predicted market returns than a simple yield-plus-growth model in five straight decades, before underperforming in three of the last four.
  • Although CAPE is often intimated as a one-size-fits-all tool, no single model is a silver bullet applicable to all markets, all the time.
  • The Research Affiliates new Asset Allocation Interactive platform offers multiple expected return models, which can be blended together to create optimal portfolios containing the best of each model’s perspective.


For close to three years, Research Affiliates has been publically providing long-term expected returns across a variety of asset classes with our Asset Allocation Interactive platform (AAI platform), available on our website. The feedback from the investment community has been overwhelmingly supportive. So supportive, in fact, that we decided to overhaul the original website to add more data and functionality. Still free of charge, we are excited to roll out in June 2017 our newly enhanced website offering even more analytics for asset allocators.

I admit it—I’m suffering from fatigue related to the cyclically adjusted price-to-earnings (P/E) ratio (CAPE), which—for the unfamiliar—measures the ratio of price to an average of real earnings per share over the previous 10 years. As you can imagine, having CAPE fatigue at Research Affiliates makes me as popular as Ronald Miller at the end of the cult 1987 classic Can’t Buy Me Love—I’m eating lunch alone.

Nevertheless, basing expectations on CAPE is certainly not the worst thing an investor can do. We believe that distinction is most appropriately awarded to the commonly used historical-average model that simply extrapolates historical returns into future expectations. Some investors, however, have graduated from the historical-average model to following the advice of practitioners who espouse the wonders of the CAPE ratio—all the time, and forever.

CAPE fatigue is less an incrimination of CAPE as it is of the “one model all the time” approach. Instead of focusing completely on one framework for estimating future returns, investors benefit from considering multiple perspectives—the approach we take in our AAI platform. In this article, we look at three different models of return estimation along with the benefits for investors of incorporating multiple expected return models in their investment strategy.

Birth of CAPE
Campbell and Shiller (1988) is the genesis of CAPE’s rise in popularity. The backstory of the CAPE ratio, more colloquially known as the Shiller P/E ratio, is its usefulness in identifying if the market is under-, fairly, or overvalued because of the significant relationship between the current level of the ratio and the real total return of the market over the subsequent decade. Campbell and Shiller demonstrated this relationship in the US equity market for the period 1881 to 1987.

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