I am trying to understand the organisation of the curriculum.
The Yardeni model is meant to value the equity market as a whole, and not an individual asset. Within the same chapter however, we also learn about Tobin’s q and Equity q, which rather apply to single assets I guess. In another chapter “capital market expectations”, there is also a sub-chapter for formulating capital market expectations for the equity market where we learn about the Gordon growth model, the Grinold-Kroner model… which are rather valuation models for individual assets, or aren’t they?
So I don’t understand the organisation of the curriculum and the whole logic behind it. I used to just learn each model and do whatever I am asked to do with it, which is easy and does not require further thinking. But I notice that my memory saturates if it is not guided by something that makes more sense, a general view of what we’re trying to achieve here!!
Thanks for your help
(PS: I am still using the books of the 2014 exam so if this conversation becomes really confusing and you don’t see what I am talking about, it may be because the curriculum was reorganized. But I don’t think it has been).
The Yardeni model is a relative value Model. The Fed Model, Tobin’s Q and Equity Q are relative value Models too.
The Fed Model and the Yardeni Model are Earnings based models.
Tobin’s Q and Equity Q are Asset based models.
We use a relative model to indicate whether we should be overweight or underweight a particular “segment”, “asset class”, etc.
Gordon Growth model is an absolute value model. It calculates the actual value (intrinsic value).
So if one were to use a top down approach for example we could use the relative value model to indicate whether we should choose equities or bonds. And then we would use the absolute value model to choose whether an investment will have a positive Net Present Value or not.
Hope this points you in a direction that can shed some light. Perhaps someone can review my logic.
Ok, yes, you are right. It is actually stated as the title of the chapter “relative value models”. Thank you!
I have one more point about the organization of the curriculum on this. Within the chapter “tools for formulating capital market expectations”, we still have quite a blend of tools which they treat at the same level without highlighting how they differ.
According to my understanding, we use the Grinold-Kroner model to determine the expected rate of return on equity, not the required return (except of course if you know the fair value but usually this is not the input. The input for “P” is rather the price. Hard to get the fair value without first knowing the required return first anyways).
The fixed-income premiums and the equity risk premiums, on the other hand, are rather used to compute the required rate of return in practice, which they highlight properly in the text on the equity risk premiums, but then the formula still states “E®” and they still talk about “expected return” here and there. It seems they don’t care about the difference between required and expected.
Maybe I am just making things overly complicated. But I have been asking myself these questions for some time and I just can’t ignore them any longer.
