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AI Bull Market: Is the CAPE Ratio Signaling a Bubble?
7 Sep
Summary
- Shiller CAPE ratio reaches its highest since the dot-com bubble peak.
- CAPE ratio smooths earnings over 10 years, unlike traditional P/E.
- S&P 500 earnings growth inflated by one-time investment gains.
The financial media is rife with speculation on whether the current artificial intelligence (AI) bull market is a bubble. A quantitative measure, the Shiller Cyclically Adjusted Price-to-Earnings (CAPE) ratio, now indicates extreme market overvaluation. This metric has reached its highest point since the peak of the dot-com bubble in late 1999 and early 2000.
The CAPE ratio provides a broader perspective than the traditional P/E ratio by averaging inflation-adjusted earnings over the past 10 years. This smoothing mechanism helps account for fluctuations in economic cycles. As of the present, the S&P 500 index's CAPE ratio exceeds 41, a historically significant valuation.
Recent surges in S&P 500 earnings, projected for 2026, are partly attributed to significant investments in AI software and startups. Gains from these investments, such as big tech's stakes in companies like OpenAI, are recognized as earnings. However, these are often one-time benefits, not reflective of underlying business performance, and contribute to an unsustainable growth figure in trailing P/E ratios.
