Starting P/E Ratio vs. 10-Year Stock Market Returns clearly suggested that high initial P/E ratios have a negative impact on subsequent 10-year returns. This post takes the analysis a step further in an attempt to see what we can learn from the "outliers" -- the historical results that are least consistent with the trend line.
Initial P/E Ratio vs. 10-Year Stock Market Performance Revisited
Each marker in the chart above (click to expand) represents a year between 1901 and 2010. The placement of the marker indicates the Dow's normalized P/E ratio at the end of that year, and the annualized market return over the ensuing 10 years. The green trend line shows that, in general, every time the P/E ratio increased by 5, the annualized 10-year returns decreased by about 3% per year. (For a more complete explanation of the basic chart, see note at end of post and this post.)
In my experience, it is always helpful to look at the exceptions. So, in this version of the chart, I've added