Which one controls for Inflation?

FED, Yardeni or P/MA(E) ?


Fed = (E1/P)/Long term Government Bond yield

Numerator is adjusted for Inflation (it is a real variable ratio of current earnings to current prices). Denominator is Nominal Bond yield - not adjusted for Inflation. [Compares a real variable with a nominal variable)

Not answering question asked - but just to get things all in one place…

  • Fed Model ignores Equity Risk premium.
  • Ignores Earnings growth opportunities for Equity holders beyond the next period.

If above ratio < 1 - Equity Market is OVERVALUED. (E1/P < Bond Yield)

If above ratio > 1 - Equity Market is UNDERVALUED. (E1/P > Bond Yield).

Yardeni = (E1/P) / (A Rated Corp Bond Yield - d * LTEG)

How does this resolve issues in the Fed Model?

  1. Includes a LTEG component for Equities.

  2. Captures a Risk premium - but it is not exactly an Equity Risk Premium.

If Ratio < 1 - Undervalued, Ratio = 1 Fairly Value, > 1 = Overvalued Equity Market.

Snice A-rated Corporate Bond yields are used in the denominator (and not Treasury Bonds) - Inflation is included.


Both Numerator (1o year average price) and denominator (Moving average of earnings over 10 years) are REAL. So this includes impact of inflation.

Thanks cp, I just hope you are not typing all the above ^

good stuff cpk

Correct. Except the P in P/MAE is not the average price. It is the real price on that date divided by the previous 10 years averag earnings. No average in the price.

thanks cpk

hey CPK,

thanks for the detailed explanation. However I have question regading valuing market in yardeni. In CFAI volume 3 page 160 it states "A justified forward earnings yield that is below , equal to, or greater than the forward earnings yield implied by the current equity market index values…would indicated that equities are undervalued , fairly valued, or overvalued in the marketplace. "

so if market yield > yardeni yield --> undervalued equity

if market yield < yardeni yield --> overvalued equity

what ya think?

My bad.

Ratio = (E1/P)/(Yb - d* LTEG)

Yes. Justified Forward Earnings Yield = yb - d * LTEG.

If E1/P < yb - d * LTEG – Ratio < 1 - then OVERVALUED.

Ratio > 1 UnderValued

Ratio = 1 Fairly Valued.

Thanks for pointing it out.

It is easy to remember this way.

Yield is higher when P is lower. So when market yield >Yardeni, market is undervalued.

yep, Yardeni earnings’ yield is a fair earnings yield.