Price Peaks

This time, I examined the upside of today’s market.

Maximum Balances

I determined the maximum balances of the S&P500 with all dividends reinvested.

I determined the relationship between maximum balances (during Years 1 through 10) and both P/E10 and 100E10/P. P/E10 did better.

I decided to use the 1921-1995 data.

Regression Equation

The regression equation for the maximum balance during Years 1 through 10, y, and P/E10, x, is:

y = -11135x + 408406 for an initial balance of $100000.

The confidence interval is plus $150000 and minus $100000.

The break even point, statistically, is P/E10=27.7.

Roughly speaking, one half of the time, maximum balances will reach above the calculated level. It will fall below the calculated level the rest of the time.

Solving for y=$200000, x=18.7. Only if P/E10 falls below P/E10=18.7 can we be assured that real balances will rise at some point within the decade (since we must subtract the lower confidence limit of $100000).

When P/E10=29.6, as it has been recently, the calculated maximum real balance in Years 1 through 10 is $78810. Starting from an initial balance of $100000, we can expect the actual, inflation adjusted balance of the S&P500 to lie below $228800. The odds are about 80% that the maximum real balance will be below $153800. Calculations are less reliable on the downside.

Conclusions

Today’s holder of the S&P500 index can expect his balance to remain below 228.8% of its current purchasing power throughout the next decade even with dividends reinvested. The likely range of outcomes is below 153.5% (80% probability). The most likely outcome is a loss throughout the entire decade.

[This differs from the Stock Returns Predictor. The Stock Returns Predictor is more optimistic, but not by much.]

Have fun.

John Walter Russell
May 23, 2007