Fed Model methodology?
The Fed Model compares the S&P 500 earnings yield (E/P instead of the well-known P/E) versus the yield on the 10-year government note. It was dubbed the Fed Model by Prudential Securities strategist Ed Yardeni. While not officially endorsed by the Federal Reserve, it is based on a July 1997 Humphrey-Hawkins presentation given by the Fed. Different versions of the basic Fed model have been adopted. Doug Cliggott, a former J.P. Morgan strategist and now with the Swedish hedge fund Brummer and Associates, and widely-respected Morgan Stanley strategist Byron Wien use variations of the Fed Model. The model compares the yield on the 10-year Treasury note and the earnings yield on S&P 500. To compute the earnings yield on the S&P 500, simply take the inverse of the P/E ratio. For example, a P/E ratio of 25 gives a earnings yield of 4 percent. The model proposes that the expected return of the two competing investments should be roughly equivalent. When either one gets comparatively overvalued
