I’ve posted Entry #15 for the Investing: The New Rules column at the Death by 1,000 Papercuts site. It’s called Lily Tomlin on How to Read Your Portfolio Statement.
Juicy Excerpt: If you are like most middle-class workers, you have no intention of selling all your stocks today. You are in it for the long haul, trying to finance a retirement that you won’t be enjoying for many years to come. The amount that your stocks would sell for if you sold them today is not the number you need to identify to know where you stand financially. You need to know the true value of your stocks, the value that they will hold not just for today but for tomorrow and for next week and for next month and for next year and for ten years down the road. That’s a different number.
Open minded says
Rob, you recently wrote: “There are times when Buy-and-Hold actually comes out ahead at the end of 30 years. My calculator shows that. But those are rare cases. They come up in about one in ten of the possible scenarios.”
But on this site on June 30th you wrote: “If you’re willing to wait 30 years, stocks are a good deal even at today’s prices. … The highest valuation level we have ever seen is the valuation level that applied in January 2000. Even stocks purchased at that valuation level were highly likely to provided a strong value proposition if held for 30 years.”
These two statements appear to be in direct conflict with one another. Could you explain this discrepancy?
Rob says
If you buy stocks at high prices, you are going to see years of poor returns followed by years of good returns. After 30 years have passed, you will have seen enough of the good years to counter the effect of the bad years and to leave you with an overall good 30-year return.
Valuation-Informed Indexers experience the same good years that Buy-and-Holders experience, but they do not experience the bad years. So they end up ahead.
The way to think about it is that there is a penalty for following a Get Rich Quick strategy. Buy-and-Holders are hoping against hope that this will be the first time in history when ignoring price will pay off. That’s Get Rich Quick (pure emotion). Do that, and you will pay a price.
But the Get Rich Quick penalty is not the only reality of stock investing. Another reality is that stocks are the best asset class on average. Buy-and-Holders generally go with high stock allocations. At all times other than times of insanely high prices, they benefit from that.
At the end of 30 years, the benefits of Buy-and-Hold have cancelled out a good bit of the penalty imposed for following the Get Rich Quick aspect of Buy-and-Hold. VII has no Get Rich Quick aspect. So VIIs end up doing even better at the end of 30 years.
VII is really just Buy-and-Hold with the Get Rich Quick element removed. It is the Get Rich Quick element that makes Buy-and-Hold such an emotional strategy and which renders it unworkable in the real world.
Rob
sadface says
Rob, you have got to come up with better analogies. There is no way you are going to communicate effectively with people when you call ‘long term buy and hold’, ‘get rich quick’.
1) It makes no sense since the objective of ‘long term buy and hold’ has nothing to do with the ‘quick’ part of getting rich.
2) It is just sort of dumb.
Rob says
The most likely annualized return on stocks in 2000 was a negative 1 percent real. The certain return on TIPS was 4 percent real. That’s a differential of five percentage points of return for 10 years running — a total differential of 50 percent of the initial portfolio value.
What can explain the fact that millions of investors chose the asset class with the likely negative return other than the power of the Get Rich Quick impulse that resides within all of us?
We are all weak creatures, Sadface. The Stock-Selling Industry just exploits our human weaknesses with its advocacy of Buy-and-Hold strategies. It’s no different than if a doctor recommended that everyone smoke three packs of cigarettes every day on grounds that it would make him more popular than if we were to acknowledge that smoking causes cancer.
We need investing experts who permit us to learn the realities of stock investing, not ones that encourage our most damaging Get Rich Quick impulses. All investors should be considering the price of the stocks they buy before putting money on the table. To fail to do so is to cause Cancer of the Retirement Portfolio.
If the idea of caring about what happens to your money is ‘Dumb,” then I’m Dumb, Sadface. No apologies either. I care about what happens to my money and I care about what happens to the money of all my fellow community members.
Rob