From what I have seen, when the business cycle is near/ at the bottom, earnings are low and so are the PE ratios, making the stock trade at the lows of the cycle. Similarly when at the bottom, the earnings are high and so are the PE ratios, making the stock trade at the highs of the cycle. This is what causes the stocks of cyclical cos to go up and down along with the cycle. If the Molodovsky effect was true, when earnings is at the bottom, PE ratios would be high, i.e. price would be constant (wrt what it was in other parts of the cycle) or higher, and when earnings is at the peak, PE ratios would be low, i.e. prices would be constant again or lower. As a consequence, stocks of cyclical companies, would not be cyclical. What it means, is that while the PE ratios, and earnings are cyclical, the prices are not. This is consistent with CFAIs level 1 concept that a cyclical company is different from a cyclical stock. But is this what you guys have practically observed in the markets? It wouldn’t be wrong to say that the Molodovsky effect stems from the concept of market efficiency. Indeed, if the markets were perfectly effecient, cyclicals should have only earnings movement due to cyclicality and no stock price movement whatsoever caused by cyclicality.
"Similarly when at the bottom, the earnings are high and so are the PE ratios, making the stock trade at the highs of the cycle. " I am assuming you meant “when at the top…” Anyway, don’t overthink this topic dude! It’s very simple - PE is counter-cyclical.
what reading is this even from? haven’t done derivatives or PM yet, so i’m hoping in one of those two
seriously, this molodovsky guy sounds like he’s in equity somewhere, what’s up with him and where can i read this stuff
can anyone elaborate on this? thanks.
The Molodovsky effect states that while earnings are high at the top of the cycle PE ratios might actually be lowest. And at the bottom of the cycle PE ratios might actually be highest (due to depressed earning), even though the share price is probably lower at the bottom of the cycle.
This makes intuitive sense, nevertheless I have not seen studies of the Molodovsky effect so far (Molodovsky provides some data in his original paper, but its not a rigorous study) and ancedotal evidence seems to be weak. This might be a good way to get a hold on the quantitative topics … get some data from cyclical companies and try to statistical show the existence (or lack of) the Molodovsky effect