Robert J. Shiller is one of the most highly regarded economists in the world today. He’s a winner of the Nobel Prize in economics and co-inventor of the Case-Shiller housing price index that is a widely cited indicator of expansion or distress in the housing market.

He is also the inventor of the CAPE ratio (cyclically adjusted price-earnings ratio). The CAPE ratio uses long-term earnings instead of short-term to spot stock market bubbles. It has a much better track record than typical Wall Street analysis at predicting downturns.

Most famously, Shiller was one of the few economists who warned of the 2007 mortgage market collapse and the 2008 financial panic. Shiller is one of my favorite economists because he’s not afraid to throw off conventional models and to develop new models that do a better job of forecasting. His latest article is one that investors cannot ignore.

Shiller is once again warning of the potential for a stock market meltdown. In particular, Shiller shows that any slowdown in earnings could reveal a stock market bubble that will pop suddenly and unexpectedly. Shiller contends that investors have too much confidence in projections of higher earnings as far as the eye can see and should be more concerned with the cyclicality of earnings and the prospect of a recession or earnings slowdown in the not-distant future.

Investors who listened to Shiller in 2007 had time to avoid massive losses. It may be a good idea to listen to him again.

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