Set forth below is the text of a comment that I recently posted to another blog entry at this site:
I think we need a label for what everyone on Bogleheads does — let’s call it Strategy B. Strategy B says: “Historical data shows valuations explain some of the variability in future stock returns. If I choose to, and it makes sense for my circumstances, I may vary my asset allocation based on them.”
What do you think of Strategy B? Since it sounds like what you employ personally, and what most other investors (including myself) use, isn’t this a general system we can all agree on? If now, how is it flawed?
I agree that Strategy B is what most people follow today, Anonymous.
I certainly have no objection if people follow it. People should follow what they believe in. Lots of people believe in what you call “Strategy B.” They are right to follow it.
I don’t follow Strategy B. And it’s not true that all Buy-and-Holders follow Strategy B. I agree with you that most do. But I don’t believe that John Greaney follows Strategy B. I don’t believe that Eugene Fama follows Strategy B. Greaney and Fama are Buy-and-Hold purists. I am a Valuation-Informed Indexing purist.
The only problem I would have with Strategy B being “a general system we can all agree on” is if making that the general system means that the Buy-and-Hold purists and the Valuation-Informed Indexing purists cannot speak their minds.
We do not today know all there is to know about how stock investing works. Perhaps the Valuation-Informed Indexing purists are right. Perhaps the Buy-and-Hold purists are right. Perhaps the Strategy B people are right. Members of all three groups should express their sincere views and members of the other groups should show them respect when they are speaking. In time, one of the three groups will win the day. But we are just not there yet.
You are saying something important when you say that Strategy B is the most popular belief system today. That really is so. The problem for me as a Valuation-Informed Indexer is that most people view Strategy B as an offshoot of Buy-and-Hold and view both Strategy B and Buy-and-Hold as “acceptable” strategies. Valuation-Informed Indexing, in contrast, is viewed as “out there” and hard to accept.
Valuation-Informed Indexing will not become more popular over time unless people hear about it and are able to ask questions about it. So I need to open up space for debate over Valuation-Informed Indexing at every board and blog. I have no intention of closing up space for Buy-and-Hold or for Strategy B when doing that. My intent is a positive one, not a negative one. I am trying to add something, not to put an end to something (except to the extent that that something tries to put an end to Valuation-Informed Indexing before it even has a chance to grow into something big).
I view this as an encouraging post. If you are checking with me as to whether I am okay with the idea of all “sides” taking a less dogmatic position re what they believe in, I support that effort 100 percent and want to do anything in my power to see that it is successful.
I don’t personally believe that Strategy B is the right answer in an ultimate sense. But it IS more popular than either of the two purist approaches and it is also less dogmatic than either of the two purist approaches, which is a plus from a process standard. If there is ever going to be a time when large numbers of people are going to become Valuation-Informed Indexers, there probably is first going to need to be a time when there is widespread support for Strategy B.
It is a lot easier to make the shift from Buy-and-Hold to Strategy B than it is to make the shift from Buy-and-Hold to Valuation-Informed Indexing. And it is a lot easier to make the shift from Strategy B to Valuation-Informed Indexing than it is to make the shift from Buy-and-Hold to Valuation-Informed Indexing.
Helpful post. I hope we can work together to use it to take us all to good places.
Rob
Anonymous says
Rob,
Does it concern you that there have been many market timing strategies that have been research and peer reviewed but once discovered no longer work? PE10 would certainly fit into this mold as everyone is now well aware of the metric and its possible implication.
Does it concern you that the research you cite includes a huge chunk of time where implementing VII would have been incredibly impractical? In that sense a market inefficiency related to PE10 ratio could of existed but the cost of taking advantage of it at the time would have been too great to act on and thus correct the inefficiency.
Does it concern you that the research you cite doesn’t properly account for trading costs and tax implications at the time which again suggests that a PE10 market inefficiency could have existed without the ability to take advantage of it?
Does it concern you that the research you cite doesn’t properly account for trading costs and tax implications at the time so its comparisons to a buy and hold strategy are not perfect?
Does it concern you that you only use PE10 on the U.S. market and therefore are only informed about a single market? What is the plan for international stock allocation which isn’t informed by your PE10? Certainly a portfolio that totally ignores the entire rest of the world can’t be properly diversified and by your assessment less risky.
Does it concern you that the mean PE10 ratio could very well be trending upwards?
Does it concern you that there is no theoretical reason for the historical mean of PE10 and that it is nothing more than that the historical mean? The historical mean height of males throughout history is probably something like 5’3″ foot. Should I expect a revision back to this historical mean?
Does it concern you that even if a PE10 over some historical mean represents a market inefficiency a market can remain inefficient for a very long time?
Rob says
Some of those things concern me a little bit. Some of those things are legitimate caveats. It is important that people be aware of caveats. I would be concerned if people were overlooking the caveats.
But it certainly does not concern me that we are the luckiest generation of investors ever to walk Planet Earth. It certainly does not concern me that we know today how to reduce the risk of stock investing by 70 percent while greatly increasing our returns.
It GREATLY concerns me that you Goons have engaged in numerous acts of financial fraud to prevent millions of middle-class investors from learning what they need to know to invest effectively. It GREATLY concerns me that you will be going to prison following the next price crash. I am working hard to win a reputation as the most severe critic of the smelly Buy-and-Hold garbage alive on Planet Earth.
I will give a specific response to your first point. The peer-reviewed research shows that short-term timing never works. Every timing strategy that has failed belonged to that category. The peer-reviewd research also shows that long-term timing ALWAYS works and is ALWAYS 100 percent required. Given that ALL of the research says that long-term timing is 100 percent required, it does not concern me at all that VII calls for long-term timing. It is required. The fact that timing strategies that the research says can never work actually do not work does not surprise me. That’s what we should all expect to see. If there were ever any research showing that long-term timing is not 100 percent required, that would surprise me. There has of course never been even a tiny sliver of research or data pointing in that direction.
Does it concern you that Buy-and-Hold has caused an economic crisis each and every time that it has become popular and that there has never been an economic crisis in the U.S. that was not preceded by Buy-and-Hold becoming a popular strategy? Do you think that this track record suggests that perhaps we should permit honest posting on the internet re the last 33 years of peer-reviewed research in this field?
Rob