Price Earnings (PE) ratios follow giant swinging cycles at last about 30-40 years. The cycle starts off with a PE of about 7, which is about half it’s long term average, and an economy in recession or depression. For 15 years the economy expands and the PE ratio stretches to reach levels around twice it’s long term average, at around 30. In the last cycle that topped in 2000 the PE ratio stretched to nearly 50!
For the next 15 years or so the PR slowly contracts as the economy slows and the poor allocation of capital that accompanied the boom is written off. This phase sometimes sees a crash, but more often sees a series of smaller bull markets within a larger secular bear market.
So where are we now? Well, we did get down to a PE ratio in the US stock market ( and we will use them as a proxy for the rest of us) of 14 at the depths of the 2008 crash. But that was short lived. We are currently sitting on a PE ratio of 21, still over the long term average of 14 and nowhere near the low of 7 that is coming. Real and sustained economic growth is only possible when the system has been cleansed. That day will feel like Armageddon, but it will finally push the financial puss out of the economic boil we see every day around us in the markets. Few will have their powder dry for that day of great bargains, but fortunes will be made by those that do.