“…changes in this ratio have often been inversely related to changes in the long-term Treasury yields, but this year's stock price gains were not matched by a significant net decline in interest rates. As a result, the yield on ten-year Treasury notes now exceeds the ratio of twelve-month-ahead earnings to prices by the largest amount since 1991, when earnings were depressed by the economic slowdown.”
-Ed Yardeni, Deutsche Morgan Grenfell 1997
The Fed model
In the quote above, Ed Yardeni was talking about the price-earnings ratio of the S&P 500. That's simply price divided by earnings.
In what later came to be known as the "Fed Model," the theory is that rising interest rates hurt equity valuations. The key is the inverse relationship, earnings divided by price o...
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Edward Harrison is the founder of Credit Writedowns and a former career diplomat, investment banker and technology executive with over twenty five years of business experience. He has also been a regular economic and financial commentator in print and on television for the past decade. He speaks six languages and reads another five, skills he uses to provide a more global perspective. Edward holds an MBA in Finance from Columbia University and a BA in Economics from Dartmouth College.