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AIQVM, S&P 500 and PEs (Fundamentals)
March 21, 2017

The Arrow Insights Quality Value Momentum Index (AIQVM) is a diversified composite of 50 U.S. stocks ranked highest when measured on quality + value + price Momentum factors within an equity universe of about 3,500 firms. Figure 1 plots the 12-month price-to-earnings ratio (PE) for the S&P 500 Index (SPX, middle panel - red line), the 120-month trailing mean PE for the index (NPESP) and the price trend of the index (top panel, green and black lines). The bottom panel shows the trailing 48-month correlation of SPX and NPESP or SPX:NPESP. SPX and NPESP were in sync during the bull markets of Sep 1934-Oct 1943, Nov 1958-Mar 1972 and Apr 1986-Jan 2002. However, for most of the present bull market they have not been in sync (Aug 2008 - May 2016) The NPESP:SPX correlation went positive on May 31, 2016 and has remained so.

When SPX and its normalized PE are in sync, fundamental quality and value factors are the primary drivers of stock prices. AIQVM has bested SPX since 1999, primarily because it held a concentrated portfolio of stocks that were rewarded for sounder economic fundamentals than the capitalization-weighted index. For most of this period, fundamentals mattered to investors. Fundamentals mattered less to investors from May 31, 2013 through May 2016 when SPX:NPESP was extremely negative (bottom panel, Figure 2), which was when AIQVM underperformed SPX by a wide margin (Figure 3).

InFocus Highlights: (all time periods end on February 28, 2017)

  • Since Dec 31 1999, AIQVM and SPX record cumulative returns of 229% and 61% (Figure 2).
  • AIQVM and SPX return 9.3% and 28.6% from May 2013 – May 2016 (Figure 3).
  • Since May 2016 SPX:NPESP has climbed, AIQVM and SPX are 14.9% and 12.7% (Figure 4)

Figure 1. S&P 500 & SPX PEs – Dec 31 1925 to Feb 28 2017

Figure 2. AIQVM, S&P 500 & SPX PEs – Dec 31 1999 to Feb 28 2017

Figure 3. AIQVM & S&P 500 May 31, 2013 to May 31, 2016

Figure 4. AIQVM & S&P 500 Since May 31, 2016

DISCLOSURE: This report does not provide tailored investment advice. It was prepared without regard for specific circumstances and objectives. The securities shown may not be suitable for all investors. Arrow Insights recommends that investors independently evaluate particular investments and strategies. The appropriateness of an investment or strategy will depend on investor circumstances and objectives.

The contents are not an offer to buy or sell any security or to participate in any trading strategy. Arrow Insights and its affiliates, or its employees not involved, may have investments in securities or derivatives of securities of companies mentioned in this report, and may trade them in ways different from those discussed in this report.

Arrow Insights and its affiliate companies conduct business related to securities covered in its research reports, which may include market making and specialized trading, risk arbitrage and other proprietary trading, fund management, and investment services. Arrow Insights makes every effort to use reliable, comprehensive information, but we make no representation that it is accurate or complete. Opinions or information in this report are subject to change without notice.

Reports prepared by Arrow Insights are based on public information and may or may not include the opinion(s) of the author. Facts and views presented in this report have not been reviewed by, and may not reflect information known to, professionals affiliated with Arrow Insights.

Past performance is not necessarily a guide to future performance. Estimates of future performance are based on assumptions that may not be realized.

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