Special-items write-downs lift the CAPE ratio after downturns by cutting its 10-year earnings average. CAPE, the price divided by 10 years of inflation-adjusted reported earnings, then looks pricey even when core profits recover. The measure aims to smooth business-cycle swings and gauge 10-20 year expected returns, according to Alpha Architect summary of Vanguard research. A crash-year loss can therefore keep CAPE elevated long after prices stabilize.
Table of Contents
- Why one bad year counts for ten
- What 2008 showed about index earnings
- How a different earnings lens changes the picture
- What to do with a high post-crash CAPE
Why one bad year counts for ten
U.S. accounting shifted in 2001, when FAS 142 ended 40-year goodwill amortization. The Motley Fool traces the change to impairment testing, which forces large one-time write-downs when asset values fall. There is no matching write-up when values rise.
That asymmetry hits reported earnings hardest in a crisis. Losses bunch in the downturn year, while prior and later years carry normal profits. CAPE then divides today's price by an average dragged down by that single depressed year.
What 2008 showed about index earnings
In Q4 2008, AIG alone subtracted $5.13 from S&P 500 operating earnings and $7.10 from reported earnings, according to Edge and Odds analysis of S&P trough earnings. It was only 0.02% of index market value. Wharton professor Jeremy Siegel warned that AIG's roughly $80 billion write-off would pollute CAPE earnings for 10 years, as reported by Motley Fool report on Siegel's warning.
Freddie Mac earned about $25 billion in 2000-2007 then lost about $50 billion in 2008. Edge and Odds found the crisis distorted both reported and operating trailing earnings in an unprecedented way. Trailing P/E ratios therefore understated sustainable index earnings, so macro-normalized estimates were more appropriate.
How a different earnings lens changes the picture
Siegel's proposed fix replaces GAAP reported earnings with Bureau of Economic Analysis NIPA profits. The Alpha Architect summary of Vanguard research explains that NIPA adjusts financial-source profits upward to offset asset write-down treatment. U.S.
BEA data is the reference point for that adjustment. On that NIPA basis, CAPE looked near its historical median. The point is not that crashes do not matter, but that one accounting charge should not set your return view.
- Check whether a high CAPE follows a known write-down cluster
- Compare GAAP CAPE with an operating-earnings or cash-flow view
- Treat valuation as an allocation input, not a timing signal
What to do with a high post-crash CAPE
Shiller and Jivraj tested NIPA, operating-earnings, cash-flow, sales and book-value CAPE variants, according to a Quantpedia summary of the Jivraj-Shiller paper. Original GAAP CAPE still predicted long-horizon returns better.
Investors should therefore treat post-crash high CAPE as a cautious, slow-decaying signal rather than a timing trigger. Wait for the depressed years to roll off, keep equity exposure aligned with your horizon, and revisit only as the average normalizes.
For the whole study explained, with every figure checked against the September 18, 2026 version of the paper, read The CAPE That Cried Wolf: What CAPE-H Says About Stock Valuations.