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Many investors treat the predictive power of price-to-earnings (P/E) ratios and other valuation metrics as gold. This is why the currently high levels of global P/Es are frightening, presumably also threatening “undervalued” Italian stocks.
The valuations, however, are not indicative of the direction of the price lists. They never were! History shows that a high P/E, by itself, means nothing.
These are not my predictions for 2026, which I will publish soon, but the ratings certainly won’t influence my opinions. Does this seem crazy to you? Observers often tout metrics such as P/E and Price-to-Sales Ratio (PSR, which I designed more than 40 years ago) as timing tools. This conception derives from the belief that low P/E ratios are indicative of “undervalued” securities, therefore inviting “buy low”, while high P/E ratios indicate effervescence and weak returns in the future, therefore it is advisable to “sell high”. These are the considerations underlying the current fears.
However, this logic appears baseless. Let’s take the MSCI Italia index and an excellent statistical indicator called “R-squared” (R-squared or R2), which indicates how much a recurring phenomenon can explain another.
The case of Piazza Affari
The starting annual P/E of Italian shares (taking the profits of the previous 12 months as a reference) and the one-year future returns from 2000 onwards have an R2 coefficient of 0.03. To clarify, a figure of zero indicates no potential causality, while 1.00 signals complete causality – in other words, this means that as little as 3% of Italian returns could come from P/Es. A negligible percentage. What is the R2 of three- and five-year returns? At 0.01 in both cases. IP/Es are responsible for just 1% of those returns. Irrelevant.
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