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Using the Shiller database (monthly) from 1870-2001, one can get a picture of how equity prices act during a decline in earnings. for 12 month periods where earnings declined by more than 10%, the change in equity prices for those same 12 months is shown here:

http://briefcase.yahoo.com/bc/tmryan11/vwp?.dir=/&.dnm=earndecl.gif&.src=bc&.view=l&.done=http%3a//briefcase.yahoo.com/bc/tmryan11/lst%3f%26.dir=/%26.src=bc%26.view=l

a few comments. first, if you exclude the initial year of a multi-year earnings decline the curve does not shift much at all, i.e., much of the tail on the red curve is from the latter stages of multi-year declines in earnings experienced in the 1870's, 1880's and 1930's. second, if you exclude the real "meltdown" years where earnings declined by more than 20%, the curve does shift a bit at the tail but the median only shifts a small amount (green curve). what is even more impressive is the discounting efficiency of the market since 1945. prior to 1945, the general pattern of prices during major earnings declines is typically for falling prices early in the cycle and rising prices in the last 4-6 months of the recession in profits. this pattern is very consistent from 1870-1942 but starting in the 1940's, prices begin to show a repeatable pattern of dropping in advance of falling earnings with strong price advances during the actual earnings decline.

tr
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