Set forth below is the text of a comment that I recently posted to the discussion thread for another blog entry at this site:
“there has never yet in U.S. history been a secular bear market that ended with a P/E10 of more than 8”
But markets don’t consult history books when deciding where to move. There’s never been an *infinite* number of scenarios – until they happen.
There are millions of price patterns out there (“Apple stock has never dropped 20% when there’s been a drought in Texas”). But hunting for them and guessing they’ll reoccur is just silly. Markets have no memory.
I like this comment a lot, Anonymous. I don’t agree with your conclusion. But it is my view that the point that you are making is an important one and a helpful one.
I 100 percent agree with you that markets don’t consult history books. This goes to the mistake that short-term timers make. They look for patterns in the history books and they proceed on the assumption that these patterns are going to repeat. My view (and it is my very strong sense that you agree with me re this) is that these people are fooling themselves. Buy-and-Holders have a great distaste for the search for historical patterns. I generally share this distaste.
I say “generally” because I obviously find some significance in the pattern that I referred to in the comment to which you were responding. I say that we always drop to a P/E10 value of 8 before seeing the end of a secular bear market. If that is so, we are all (including those of us not even in the market) going to see a lot of pain in days to come. But you are of course correct that markets don’t consult history books. So why do I even bother pointing out this pattern? Patterns don’t matter. Why be concerned about it?
The reason why I give a small number of patterns a significance that I do not give to the sorts of patterns cited all the time by short-term timers is that I believe that Shiller did more than just point out a particular pattern (that’s really all he did — he showed that there is a correlation between the P/E10 value that applies today and the stock price that applies 10 years down the road –that correlation creates a return pattern that plays out over time). It’s not the pattern that Shiller pointed out that is so all-important. That pattern is interesting. But the existence of the pattern suggests something far, far more important. The existence of the pattern suggests that the Buy-and-Holders were wrong in their core assumption re how markets work.
The Buy-and-Holders believe that it is economic developments that cause price changes. This is a core belief. If this is not so, everything that the Buy-and-Holders have ever said is called into question. Shiller ripped our understanding of how stock investing works apart. This is why I always note that he called his 1981 research findings “revolutionary.” And this is why he was awarded a Nobel prize. Shiller did not just point to one particular pattern that has always applied. He challenged the fundamental premise of the entire Buy-and-Hold project. If the market is efficient /rational, as the Buy-and-Holders believe, then prices should play out in the pattern of a random walk. Shiller showed that they do not. Shiller showed that the market is not efficient/rational.
If the market is not efficient/rational, then what is it?
Shiller’s answer is that it is emotional. It is investor emotions that set stock prices, not economic developments. That’s why the title of his book is “Irrational Exuberance.” Shiller says (he doesn’t say it directly because he does not not want to be attacked by emotional investors but this logically follows from lots and lots of things that he does state directly) that you cannot trust the numbers on your portfolio statement — they are the product of investor emotion, nothing more, and emotions can change dramatically overnight. To say that you have enough to retire because your portfolio statement sets forth a certain number should give you little confidence because the number reflects cotton-candy nothingness (emotions), nothing more.
That’s not 100 percent true. That’s not quite the entire story. There is another element to this story.
The other element is that the stock market always does reflect the economic realities in the long term. If it was only investor emotion that matters, stock prices would go up and up and up and up and never come down. We would all vote ourselves instant retirements and our scheme would work because the numbers on our portfolio statements would support our scheme. We the investors comprise the market and the market determines what the numbers are on our portfolio statements and the numbers on our portfolio statements determine when we can retire. So we decide when we can retire. We can retire tomorrow if we want to. All we need to do is to persuade all of our investor friends to engage in the same fantasies that we want to engage in. Since the fantasies work to their benefit as well, this is not hard to do. The result is what we call a “bull market.” Except it never works. There is some other force that always causes bull markets to go “pop.”
This other force is common sense. We all have it. We cannot escape it. We all possess a Get Rich Quick urge and that is why we have bull markets. And we all possess common sense and that is why all bull markets end badly. It is the tension between our Get Rich Quick urge and our common sense that determines the numbers on our portfolio statements, not the economic realities. But our common sense longs for the economic realities to apply and so there is indeed a connection between the economic realities and the numbers on our portfolio statements. It is just that that connection applies only in the long term. Prices are always moving in the direction of the economic realities but it takes 10 years or sometimes even a little more than that for them to get there. Overvaluation can remain in place for significant stretches of time. But the economic realities always asset themselves in the end and those who take the numbers that temporarily appear on their portfolio statements too seriously make a very big mistake.
I care about the pattern that I cited because it shows how stock investing really works. I don’t care about the specifics of it because I don’t trust historical patterns any more than you do. But I care deeply about getting the numbers right. And it is not possible to get the numbers right if you ignore this tension between the Get Rich Quick urge that we all possess and the common sense that we also all possess that decides where stock prices are going to end up in the long run.
I want to get the numbers right. I take note of the patterns that I need to take note of to get the numbers right. I don’t take it beyond that. I don’t make precise predictions because I don’t trust historical patterns to tell me what I need to know to get precise predictions correct. But I refuse to ignore historical patterns that reveal to me the basics of how stock investing works in the real world and that warn me never, ever, ever to accept those portfolio statement numbers at face value. I adjust the emotion-rooted numbers to bring them more in line with the economic-reality-rooted numbers that would apply if we investors had better control of the Get Rich Quick urge that for many years now has made stock investing a risky enterprise (but that no longer needs to do so now that we know what the last 36 years of peer-reviewed research in this field teaches us).
Rob
Long Time Hoco Researcher says
Rob, calling the long-term investment strategy known as buy-hold-rebalance may make your little troll heart flutter but normal people quickly see through the nonsense and see that you’re a nutjob. Making nonsensical statements such as that is Catastrophically Unproductive. Of course, Catastrophically Unproductive is the story of Bat$hit Crazy Hocomania.
Rob says
I believe that you left something out of this one, John. I believe that you meant to say “calling the long-term investment strategy known as buy-hold-rebalance a Get Rich Quick scheme…” or “calling the long-term investment strategy known as buy-hold-rebalance an emotion-based strategy….” or something along those lines.
I like the comment because it succinctly explains the reason why we have seen so much friction over the first 15 years of our discussions. If it is true that valuations affect long-term returns (we have 15 years of peer-reviewed research showing this to be so), then there is precisely zero chance that a Buy-and-Hold strategy could ever work for a single long-term investor. This is ABC logic. If valuations affect long-term returns, then stock investing risk is variable, not static and, if stock investing risk is variable, then investors MUST adjust their stock allocations in response to big price swings to have any hope of keeping their risk profiles roughly constant. In an ideal world, Bogle would have given a speech acknowledging this within a week or so of publication of Shiller’s “revolutionary” (Shiller’s word) 1981 research and we all would have been off to the races. Everyone who works in this field would have been working hard to develop the Valuation-Informed Indexing concept from that day forward and we would have made huge progress by today without ever having experienced any nastiness at all.
Of course it did not play out that way. I believe that Bogle was suffering from cognitive dissonance when he learned about Shiller’s findings. He of course understood them in an intellectual sense. But he truly believed in Buy-and-Hold and he was not able to process what he learned because the emotional pain of doing so was just too much. So he ignored Shiller’s work and just continued promoting the Buy-and-Hold concept as if Shiller’s work did not exist. There were already lots of powerful and influential people promoting Buy-and-Hold at that time who also were alarmed by what they heard about Shiller’s research who also suffered cognitive dissonance and who followed Bogle’s lead. Since there were no terrible results that quickly followed from this terrible “choice” (it was not a true choice given the cognitive dissonance behind it), it became the accepted thing to do.
The longer the “cover-up” (again, it was not a true cover-up in an important sense because of the cognitive dissonance) continued, the harder it became to reverse course and come clean re what Shiller’s revolutionary research signified. Levels of overvaluation became truly dangerous in 1996. But by that time the cover-up had been continuing for 15 years. What were people going to do at that time, say “hey. remember all that Buy-and-Hold stuff that we’ve been telling you about for years now, that was all a mistake, everyone who follows the research in this field has known this for years, some funny joke, huh?” These people need to be recognized as experts to make a living in their chosen field. It does not look good for an expert to reveal that he has been ignoring 15 years of peer-reviewed research in all of his public statements about a matter of great importance. So, even though valuations had now reached a point where the cover-up was exceedingly dangerous, it continued.
Eventually, the cover-up caused an economic crisis. That made it ever more dangerous to permit the cover-up to continue. And it also made it even more difficult to reverse course and come clean. The cover-up of the obvious meaning of Shiller’s revolutionary research findings has over time become more and more and more dangerous to every last one of us while also becoming harder and harder and harder for us all to acknowledge. And here we are.
“Buy-and-Hold” and “Get Rich Quick” are synonymous terms. We didn’t know that before 1981. I don’t believe that the Buy-and-Holders started out aiming to do any harm. But we did learn that in 1981 and we should have promptly gotten to work spreading the word far and wide and working together to build the first true research-based investing strategy, Jack Bogle’s dream from his younger years. If valuations affect long-term returns, then Buy-and-Hold is the purest and most dangerous investing strategy ever concocted by the human mind and every investor alive needs to be aware of the dangers he is facing when he falls for this garbage strategy.
But you are absolutely right that the vast majority of today’s investors find the claim that Buy-and-Hold is dangerous a preposterous claim. So, yes, you are right that most people tune out those of us who make such claims. 90 percent of investors think that Buy-and-Hold is perhaps the safest strategy and that it works just fine or at the very bare minimum that it works well enough. That’s where we are today.
We all deep in our hearts want to be in a better place. I think it would be fair to say that I have been elected to lead us to a better place. We don’t get there by being afraid to stand up to the relentless abuse dished out by you Goons. We have to insist on our right to post honestly. There is no other way. When one of us insists on his right to post honestly, it helps all the rest of us work up the courage to do the same. Had those who had doubts about Buy-and-Hold before I came along expressed those doubts in stronger and more honest terms, I would not have faced the wall of opposition that I faced when I pointed out that the retirement study posted at your site lacks a valuations adjustment, John. I don’t want anyone who comes after me to have to face what I had to face. So I am going to continue to post with complete honesty
With complete charity as well, to be sure. That’s the other side of the story. The Buy-and-Holders are our friends. They have made many hugely important contributions. There would be no Valuation-Informed Indexing today were it not for the amazing work done over the years by our Buy-and-Hold friends. Posting in a fully honest way requires telling that side of the story as well as the cover-up side of the story.
But the cover-up side does need to be told. People have a hard time understanding how there could be 36 years of peer-reviewed research showing that there is precisely zero chance that a Buy-and-Hold strategy could ever work for even a single long-term investor and yet this never became generally known. The story of the cover-up tells the tale. So that needs to get out there if we ever are as a society going to get things back on a good track.
Lots of people do indeed think that I am a nutjob, John. Most would not be so rude as to say so in those words. But lots of people really do think something along those lines.
But I intend to continue posting honestly. The reality here is that your study does not contain a valuations adjustment. It gets the numbers wildly wrong. The safe withdrawal rate was not 4 percent in 2000, it was 1.6 percent. You have hurt millions of people in very serious ways with your criminally abusive posting tactics. You hurt thousands of people who read your stuff on the internet and believed that your claims were rooted in legitimate research. You hurt millions more when you stopped those of us who wanted to launch a national debate on these matters from doing so.
I cannot be a part of this massive act of financial fraud. In part because I don’t want to go to prison. And in part because it is just not what I am about. A good number of those people had become friends of mine over the years. I care about them. I cannot sell them out. I will never do so.
I wish you the best of luck in all your future endeavors. But that is as far as it goes for this boy.
It will be interesting to see how it all plays out.
My best and warmest wishes to you.
Rob