Set forth below is the text of a comment that I recently posted to the discussion thread for another blog entry at this site:
Risk adjusted? To the opposite, I can make a claim that my portfolio is undervalued and is actually worth twice what my account statement says.
The measurement is what someone else is willing to pay for it on that particular day. Your house, for example, is worth what a potential buyer will give you right now. You don’t value it at some other number that fits a story.
Despite your guesses over the years, you have been wrong and the market has done significantly better, leaving you behind. You should admit that you made the wrong decision to exit the market.
“The measurement is what someone else is willing to pay for it on that particular day.”
This is the entire freakin’ point, Anonymous.
If what someone was willing to pay at the time was the true value of stocks, P/E10 would not predict anything. If what someone was willing to pay at the time was the true value of stocks, looking at valuations would be a waste of time. In that sort of world, timing would be a bad idea. In that sort of world, Buy-and-Hold would be the ideal strategy.
We don’t live in that sort of world. We live in a world in which to know the true value of your portfolio, you need to adjust for the overvaluation or undervaluation that applies on that day. That’s why Shiller’s findings are considered “revolutionary” (his word). Before Shiller published his research, people believed what you are saying here. Now we (at least some of us!) know otherwise.
Saying “the measurement is what someone else is willing to pay” in the year 2017 is like saying in the year 2017 that the earth is flat or that man will never get to the moon or that bleeding is the best cure for most diseases. There was once a time when people thought these things. But it has been a long, long time since these ideas were disproven.
What do you think it means to say that stocks are “overpriced” if it doesn’t mean that the stated price is incorrect? If the stated price is incorrect, you can’t just treat the stated price (“what someone else is willing to pay”) as accurate.
You know all this, right? This is one of those times where I suspect that you are joking around but am not 100 percent sure. Things get tricky when there is cognitive dissonance. Do you really not understand what the word “overvaluation” means? I am not trying to insult you. I just don’t know how to respond to words like this without hitting at the basic point that you are denying the meaning of the word that we have been talking about for close to 15 years.
If stocks are currently selling at three times their fair value, then the measure of their value is certainly NOT what someone else is willing to pay for them on that particular day. The measure of their value is what someone else is wiling to pay for them on that particular day DIVIDED BY THREE.
That’s the entire point. You must divide by three. Greaney got the numbers wildly wrong in his retirement study because he didn’t do that. This is basic stuff. This should not be so darn difficult.