I’ve posted Entry #53 to my weekly Valuation-Informed Indexing column at the Value Walk site. It’s called All Stock Investors Believe That Returns Are Predictable (Some Just Don’t Want to Admit It).
Juicy Excerpt: What Buy-and-Holders have done is to combine the fantasy Get Rich Quick approach of the past with the data-based, research-supported approach of the future. In the old days, stock investing was not a subject of systematic academic study. So just about everyone was following a fantasy Get Rich Quick approach (the exception was the Value Investors, who were going to the trouble of analyzing particular companies and investing only in those that offered a a strong long-term value proposition). The Buy-and-Holders took an important step forward by rooting their strategies in something real and objective, the historical return data and academic studies of what it says.
Their mistake was in failing to incorporate the most important price of the investing puzzle — valuations, the thing that determines whether an index fund offers a strong long-term value proposition or not — into their calculations. The result is that all of the studies generated pursuant to the Buy-and-Hold model get all the numbers wrong. Buy-and-Holders have wrong numbers to go by when setting their stock allocations, wrong numbers to go by when structuring their retirement accounts, and wrong numbers to go by when assessing risks. It’s a big mess!
They know this on some level of consciousness. That’s why they are so reluctant to be clear about their predictions of how stocks will perform on a going-forward basis. If they were to make intellectually justifiable return predictions, they would need to consider valuations because this is the dominant factor. But the effect of valuations on long-term returns is the Achilles heal of Buy-and-Hold strategies. Start talking about valuations frankly and the entire model collapses.
So the Buy-and-Holders comfort themselves that return predictions are not possible, that predictions are the product of some sort of magic and are in some way less “scientific” than the numbers in all their studies.