CAPE has long been a cornerstone of long-horizon return forecasting. High valuations imply lower future returns. Low valuations imply higher future returns. Critics argue that its predictive power has faded in recent decades. This paper pushes back. It shows that the apparent decline is largely a measurement problem. When CAPE is constructed using aligned index constituents and market-cap weights,...
The strongest version of this narrative is that CAPE's apparent decline in predictive power is not a failure of the metric itself but a failure of measurement. By correcting the mismatch between current index constituents and historical earnings—and by using market-cap weights instead of earnings weights—the authors demonstrate that CAPE's predictive power for ten-year returns remains robust, even in recent decades. This is a compelling argument, as it addresses a legitimate criticism of CAPE wh...