Mean reversion

Mean reversion is the tendency for a number - say, the price of a house or a share - to return to its long-term average value after a period above or below it.

Mean reversion is the tendency for a number- say, the price of a house or a share- to return to its long-term average value after a period above or below it. For investors this presents an opportunity to buy or sell an asset confident that the price will eventually move up or down towards a long term average value.

For example, the average price earnings ratio for the FTSE 100 since it started is 14. At the height of the dotcom boom the index average shot up to 26, a clear 'sell' signal for many investors.

However, logical though this theory is, don't forget the maxim "the markets can remain irrational longer than you can remain solvent". In other words, even once you understand mean reversion, predicting when it will occur is not easy.

Most Popular

Will energy prices go down in 2023?
Personal finance

Will energy prices go down in 2023?

Ofgem’s price cap is now predicted to fall below £2,000, based on average typical use, from July, for the first time since 2022. We have all the detai…
21 Mar 2023
Where will house prices go in 2023?
House prices

Where will house prices go in 2023?

We explore what could happen to house prices in 2023 as the market continues to slow down.
24 Mar 2023
Share tips of the week – 24 March
Investments

Share tips of the week – 24 March

MoneyWeek’s comprehensive guide to the best of this week’s share tips from the rest of the UK's financial pages
24 Mar 2023