Set forth below is the text of a comment that I recently posted to the discussion thread for another blog entry at this site:
Below is what Shiller is saying today.
“Spooky valuation story No. 1: The Shiller P/E ratio is now at 30.8, higher than it was right before the 1929 market crash.
The only time it was higher was right before the 2000 dot-com market meltdown, as you can see here. That does sound scary!
Especially when you consider that this valuation metric was invented by a Nobel Prize winner and Yale University professor Robert Shiller, who wrote The New York Times best-seller “Irrational Exuberance.” That’s an impressive list of credentials. He’s smarter than you and me, or at least me anyway, so his P/E ratio formula has to be right, no?
Not so fast. I checked with Shiller, and even he disagrees with this one. Shiller tells me he’s still got money in the U.S. markets, though he has been tilting toward Europe and emerging markets, in part, because they look cheaper. “For the immediate future, I am not that bearish,” says Shiller. “I am not thinking that the U.S. is a disaster.”
Shiller cites two reasons you shouldn’t buy the scare story that bears are concocting from his famous valuation metric. First, as many Shiller P/E commentators like to point out, Shiller says his P/E ratio is not a good predictor of short-term market moves, meaning one or two years. Instead, it’s better as a 10-year predictor. But even here, it’s not forecasting dire news. It’s still predicting gains over the next 10 years, even if they’re modest, says Shiller.”
So, Rob, what gives? Shiller says we shouldn’t buy your scare story. Not only is he not warning “divide your portfolio by two”, he’s still in the market himself. Doesn’t Shiller understand the last 36 years of peer-reviewed research? Doesn’t he understand his own research? If Shiller isn’t on your side, who is?
I don’t see any conflict between what I say and what you quote in that comment, Anonymous.
I certainly believe that you need to divide by two to know the true, lasting value of your stock portfolio. That’s what it means to say that stocks are priced at two times fair value.
But I certainly do not think of myself as a bear. I think of myself as someone who uses the peer-reviewed research as a guide to how to invest in stocks. I don’t see anything bearish or bullish about using peer-reviewed research as a guide.
I certainly agree that most investors should have some money in stocks today. But I certainly do NOT believe that most investors should have the same stock allocation today as they would have at a time when stocks are priced reasonably. If Shiller is saying that investors should go with the same stock allocation at all times, then we do indeed disagree. There’s a tiny bit of a suggestion of that in the words you quote. But I don’t think he says that. My take is that he is dancing around the issue. He doesn’t want to address the issue clearly because he knows that the Buy-and-Holders will go nuts if he does. So he offers some words that cut one way and some words that cut the other way.
I don’t quite agree with the fellow who is saying that Shiller’s words have credibility because he is “smarter than you or me.” Shiller is plenty smart. But Bogle is plenty smart too. If the test is which group has higher I.Q.s, I would feel comfortable with the Buy-and-Holders, there are plenty of smart people on that side of the table. I go with Shiller because he has 36 years of peer-reviewed research supporting him. That’s the biggie for me. The other biggie for me is that what Shiller says is consistent with what common sense tells me — price matters with everything else I buy so I have a hard time ignoring it when I buy stocks. Shiller is plenty smart but I wouldn’t say that that is the sole thing that makes him so persuasive for me.
I don’t like it AT ALL when Shiller says “for the immediate future, I am not that bearish.” Yucko! That one makes my blood run cold. He says this kind of thing all the time. He is saying here that he thinks that he can look at some sort of signal and identify the right time to get out of U.S. stocks. I am with the Buy-and-Holders re this one. I don’t believe that short-term timing works and I find it embarrassing when Shiller indicates that he believes in it. I believe that Shiller’s official position is that short-term timing doesn’t work but I have seen him refer to “indicators” and his confidence in them on many occasions. Nobody’s perfect and this is a case where my take is that Shiller is saying something that is outright foolish. I don’t see it as a super big thing. But I find it more than a little perplexing given how smart he indeed is. It shows once again that smart people get them wrong all the time. Being smart is a plus but it is not enough.
I don’t think that the U.S. is a disaster. I wouldn’t be looking around for undervalued markets. It can make some sense to do some of that. But my personal view is that the U.S. is a well-established market with a great track record. I think you can outsmart yourself trying to look for other markets at times when the U.S. market is insanely overpriced. My inclination would be just to lower your allocation in the U.S. market for a time.
I of course agree that P/E10 does not predict short-term returns. I agree that today’s P/E10 predicts a positive return over 10 years. But it predicts a very low positive return. If you are happy with a very low positive return and you understand that that’s what you are likely to get, a high stock allocation can work for you. But I think it makes more sense to go with a lower stock allocation today and then move to a high stock allocation when prices fall and the 10-year return going forward is much higher. Stocks have been providing a poor (about 2.25 percent) return for 18 years now. Most people cannot go for years and years with such a low return. People invested heavily in stocks have now lost out on close to two decades of compounding. What the f? Most people rely on compounding to meet their goals. Miss out on two decades of compounding and you are not going to make it. I think that the likely 10-year return at today’s P/E10 level is too low to be acceptable for any more than a small percentage of one’s portfolio.
I don’t have any “Scare story.” I have a research-based story. I think we should permit honest posting re the last 36 years of peer-reviewed research at every site on the internet. I see it as a win/win/win/win/win.
I do think that to some extent it would be fair to say that Shiller does not appreciate the implications of his own research. I don’t think there is anyone who ever lived who was able to appreciate all the implications of his own ideas. People learn from discussions with other humans. When we open every site on the internet to honest discussion of Shiller’s research, Shiller will hear lots of things that he has not heard until now. That will help him come to a better understanding of the far-reaching implications of his work. That will be a very good thing.
I don’t think that Bogle understands all the implications of his many powerful insights either. One of the things that I love about the Bogleheads Forum is that implications of Bogle’s ideas are being teased out there on a daily basis. I would bet $10 that, if you asked Bogle if he has ever read anything at that board that he did not think up himself, he would say “yes.” That’s super groovy, so far as I am concerned. Bogle got the ball rolling re those ideas. But then others came along and applied them in new and interesting and exciting ways. A win/win/win/win/win. Bogle teaches others and then others teach Bogle. I think that’s great. And I think that the same thing will happen with Shiller as we permit discussion of his powerful ideas at more places.
Shiller is on my side. So is Bogle. So is every American citizen. We acted as a people to make financial fraud a felony in the United States. I don’t know how anyone could be more on my side than to do that. If you asked Mel Lindauer or John Greanry on May 12, 2002, whether they thought that there is a place in investing discussions for death threats and demands for unjustified board bannings and tens of thousands of acts of defamation and threats to get academic researchers fired from their jobs, they would have said that there is no place for such garbage. They changed their minds under pressure. Humans do not always act rationally under pressure. But there is no problem here of the entire country not being united in opposition to the tactics that we have seen advanced by the Lindauerheads and the Greaney Goons over the past 15 years. We are entirely united. I mean, come on.
Everybody is on my side. But this has been a difficult transition. It hurts people to hear that they need to divide their portfolio balances to know the true and lasting value of their stock holdings. When people are hurt, they forget their true beliefs. This is something that happens with the humans all the time. I am 100 percent certain that we will all get things back on the right track in the days following the next price crash. Once there is no more need to divide by two, the marketing edge that Buy-and-Hold possesses today will disappear.
Or so the greatly flawed brain of Rob Bennett believes, you know?
I could be wrong, Anonymous. That’s the wild card here.
I naturally wish you the best of luck in all your future life endeavors.