ThereisastrongpositiverelationshipbetweenE/Pratiosand
T-bondrates,asevidencedbythecorrelationof0.69between
thetwovariables.Inaddition,thereisevidencethattheterm
structure also affects the E/P ratio. In the following
regression,weregressE/PratiosagainstthelevelofT-bond
ratesandtheyieldspread(T-bondminusT-billrate),using
data from 1960 to 2005.
Other things remaining equal, this regression suggests that:
- Every1%increaseintheT-bondrateincreasesthe
E/P ratio by 0.7437% (and thus reduces the P/E
ratio). This is not surprising, but it quantifies the
impact that higher interest rates have on the P/E ratio. - Every1%increaseinthedifferencebetweenT-bond
and T-bill ratesreducestheE/P ratioby 0.3274%.
Flatterordownward-slopingtermyieldcurvesseem