An earlier blog entry described the background of some recent e-mail correspondence between Michael Kitces and I on safe withdrawal rates (SWRs). Set forth below is the text of an e-mail that Michael sent to me on August 28.
I will certainly be writing something about this discussion thread on my blog as well – I just haven’t had an opportunity amidst a lot of travel for speaking engagements over the past week. Hopefully I’ll get something out by early next week.
The bottom line challenge for EMT is that while most find it discredited, at least to some extent, few have put forth any kind of equally robust alternative theory upon which models can be built. Until we find a better framework to model the system, I think EMT will persist at some level, because right now it’s the “best” assumption framework we have, flaws and all.
As a sidenote, the reason why valuation is still challenged is because while it makes sense intellectually, sadly many investors still reject it when the time comes. Try taking your clients to cash in 1998 when valuations were the most ridiculous even seen in history up to that point. You could have stayed in cash for the subsequent ten years (through today) and would have BEATE the total return of the S&P 500! Unfortunately, if you were an investment manager, you would have lost so many clients that your business would have been destroyed by 2000. The old adage “the markets can stay irrational longer than you can stay solvent” is a huge concern for the professional investing community (although it’s something closer to “the markets can stay irrational longer than you can stay in business”). Between the “business risk” of trying to be more active, and the underlying challenge that still remains for many types of active management – sure, you can beat the markets, but can you beat them BY ENOUGH to recover fees, transaction costs, etc. – we find that passive investing remains dominant. In other words, you don’t have to BELIEVE in passive investing, per se, to adopt it as an investor (or financial planner). You just have to believe that any other method isn’t reliable and effective enough to be predictably superior in a
time horizon that you and your clients will tolerate. A lot of investors do a lot of damage to themselves with that approach, but unfortunately I think a lot of it is hard-wired human neuropsychology we’re fight to change those behaviors.