What is the CAPE ratio?

The CAPE ratio is the price of the US stock market divided by its average yearly earnings over the past 10 years, adjusted for inflation, so it tells you how much investors are paying for each dollar of steady, long-run profit. A high CAPE has historically come before lower returns over the following decade, and a low one before higher returns, but it says very little about what markets will do next month or next year.

That makes it useful for planning a retirement, and nearly useless for timing a trade. Here's how it works and how people use it.

This is general education, not financial advice. Past market patterns don't promise future ones, and no single measure can predict returns.

How the CAPE ratio is worked out

A regular price-to-earnings (P/E) ratio divides a stock's price by its earnings over the last year. The trouble is that one year of earnings jumps around. In a recession, profits fall and the P/E shoots up even if prices fell too. In a boom, profits swell and the P/E looks cheap right before things turn.

CAPE (cyclically adjusted price-to-earnings) fixes that in two steps:

1. Adjust each year's earnings for inflation, so a dollar of profit from 2017 is compared fairly with a dollar today.
2. Average the last 10 years of those earnings, then divide today's S&P 500 price by that average.

So a CAPE of 25 means the market costs 25 times its average real earnings over the past decade. The higher the number, the more you're paying for each dollar of long-run profit.

What it has told us in the past

In Shiller's monthly data since 1990, CAPE's highest reading was about 44 in December 1999, near the top of the dot-com boom, and its lowest was about 13 in March 2009, near the bottom of the financial crisis (Shiller data). People who invested at the first went on to a rough decade. People who invested at the second had one of the best decades on record.

That's the pattern researchers keep finding: when you buy at high valuations, you've historically earned less over the next 10 to 15 years, and vice versa. It's a tendency, not a rule. Prices can stay high, or low, for years.

Where CAPE falls short

• It's bad at timing. A high CAPE can get higher for years. People who sold everything because CAPE looked high in the mid-1990s missed several more years of big gains.
• Accounting and the economy have changed. How companies report earnings, the mix of industries in the S&P 500 and how much profit companies pay out versus buy back have all shifted. Shiller's own notes point out that changes in payout policy can affect the CAPE level (Shiller data).
• Interest rates matter. Stocks often look pricier when bonds pay little, and cheaper when bonds pay a lot. CAPE alone doesn't account for that.
• It's about US large companies. International and small-company stocks have their own valuations.

So most people treat CAPE as one piece of context, not a trading signal.

How early retirees use it

Because the first years of withdrawals matter so much, some people let starting valuations nudge their plan, not flip it:

• A slightly lower starting withdrawal when valuations are high. Starting at 3.5% instead of 4% gives more room if the next decade is weak. The 4% rule and its limits covers the research.
• A bigger cash or bond cushion for the first few years, so you're not forced to sell stocks after a fall. That's the idea behind the bucket strategy.
• Flexible spending, cutting back a little after bad years.
• A plan for a downturn, worked out before it happens. Retiring in a bear market walks through it.

What most people don't do is move everything in or out of stocks because of one number.

Common questions

What does CAPE stand for?

Cyclically adjusted price-to-earnings ratio. "Cyclically adjusted" means it averages earnings over a full business cycle, 10 years, so a single boom or recession doesn't distort it. It's also called the Shiller P/E or P/E 10.

What is a high CAPE ratio?

There's no official line, and what counts as "high" has been debated as markets have changed. For context, in Shiller's monthly data since 1990, CAPE ranged from about 13 in March 2009 to about 44 in December 1999. Our Retirement Timing Meter shows today's reading and how it compares.

Does a high CAPE mean a crash is coming?

No. A high CAPE has historically come before lower average returns over the next decade, but it doesn't say when, or whether, prices fall. Markets have stayed expensive for years. That's why it's better for setting expectations than for timing.

What is the CAPE ratio today?

It changes every day with stock prices. uFIRE's Retirement Timing Meter estimates it daily from the latest S&P 500 close and Shiller's earnings data, alongside five other signals tied to retirement risk.

How is CAPE different from a regular P/E ratio?

A regular P/E uses the last 12 months of earnings, which swing with the economy. CAPE uses 10 years of earnings, adjusted for inflation, so it's steadier and better suited to long-term questions.

Should I delay retiring because CAPE is high?

That's a personal call, and CAPE is only one input. Your savings, spending, health and flexibility matter far more. Many people retire into high valuations safely by starting with a lower withdrawal rate, keeping a cash buffer or planning some part-time income.

Next step

See how your own savings would hold up if the first few years after you stop working are rough.

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