Discounted Cash Flow
Valuation Extremes: Here Be Dragons
Top decile valuations are often the result of unduly positive investor sentiment that leads to inflated multiples. Bullishness comes in varying strengths: optimism, enthusiasm, exuberance, and, at the extreme, the mania of crowds. Because bullishness manifests itself in aggressive valuations for speculative companies, we believe the prices being applied to such companies - for which intrinsic value is dependent on a future that looks significantly different than today - are an excellent measure of investor sentiment. In that spirit, we examined past cycles of extreme valuations with the goal of understanding how they relate to investor sentiment and what they might tell us about market conditions and relative returns.
Research Preview: A Tale Of Two Tails
Top decile valuations, such as those in place today, are usually the result of excessively positive investor sentiment that leads to inflated multiples. Bullishness comes in varying strengths: optimism, enthusiasm, exuberance, and, at the extreme, the mania of crowds. Leuthold research typically tracks valuation sentiment by examining median P/E ratios, but in this study, we are taking the opposite tack. Rather than looking at medians, we are focusing on the outliers in each tail of the valuation distribution.
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