Set forth below is the text of a comment that I recently posted to another blog entry at this site:
Here’s what a team of Vanguard PhDs and CFAs say:
Figure 2 reveals that the predictability of valuation
metrics has only been meaningful at the 10-year
horizon. Even then, P/E ratios have explained only
approximately 40% of the time variation in real
stock returns.
https://personal.vanguard.com/pdf/s338.pdf
Uh oh.
I view the Vanguard paper as being highly supportive of Valuation-Informed Indexing principles. At one point it states that “returns are better stated in a probabilities forecast” and that in the short term returns are not predictable at all. That’s Valuation-Informed Indexing! That’s what I have been saying over and over again since the first day. That’s what the Return Predictor shows. So I have not until now been able to figure out why you keep bringing up this paper.
I re-read your comment above and it hit me. I say over and over again that valuations are 80 percent of the game and the paper says that P/E ratios explain only 40 percent of the time variation in real returns. You are viewing the difference between the 80 percent number and the 40 percent number as a discrepancy.
I am NOT saying that valuations are responsible for 80 percent of the return in any given year. I stand by my statement that understanding and acting on valuations is 80 percent of the strategic stock-investing game.
There are two broad types of factors that affect returns: (1) rational factors; and (2) irrational factors.
The rational factors are all the things that should and do affect stock prices, all of the things that affect the profitability of the underlying businesses. Fama showed that all of these factors are quickly incorporated into the price of stocks. The Valuation-Informed Indexer does not dispute this finding. We endorse it. The Vanguard study is saying that all of these factors added together comprise 60 percent of the price.
The irrational factors are the emotional factors that cause mispricing (overvaluation or undervaluation). These factors are non-business, non-economic factors. They are emotional factors. The significance of these factors at any given point in time is signaled by the P/E10 value.
As an investor there is nothing you can do about the 60 percent of rational factors. So no strategic considerations come into play. If rational factors determined 100 percent of the market price, the market would be efficient (because there would be no emotional factors throwing things off) and Buy-and-Hold would be the ideal strategy. If there were no emotional/non-rational factors to take into consideration, risk would be constant. The investor would always be justified in having an expectation of a long-term return of something near 6.5 percent real.
There IS something you can do about the 40 percent emotional factors.
This study (and every other study that has looked at the question in an even remotely reasonable manner) shows that the market is NOT efficient and that RISK is variable, not constant. Buy-and-Hold does NOT make sense. Investors MUST change their stock allocations in response to big valuation shifts to have any hope whatsoever of keeping their risk profiles roughly constant over time.
The 40 percent of the total return that depends on the P/E10 level is the only portion of the total return to which the investor can respond in a strategic way. The logical response is to increase one’s stock allocation when prices are low and risk is low and to lower one’s stock allocation when prices are high and risk is high. That’s Valuation-Informed Indexing. That’s the entire concept. That’s the approach that lowers stock investing risk by nearly 70 percent, according to the famous Bennett/Pfau research paper (the only research paper so compelling that it caused the Buy-and-Holders to threaten to destroy the careers of the two authors of the paper so desperate was their desire to keep millions of middle-class investors from learning about its findings).
Valuations are not 100 percent of what determines the market price. Rational, economic factors obviously play a huge role. But there is nothing that the investor can do about those factors. They are a given.
The investor MUST change his stock allocation in response to the 40 percent of emotional factors. So far as allocation changes go, valuations are 100 percent of the game. There is no other factor that permits a high degree of predictability, according to the research. So I believe that valuations are the ONLY factor that an investor should be looking at when making the necessary allocation changes.
I reason why I don’t say that valuations is 100 percent of the game is because there are considerations other than getting one’s stock allocation right that come into play. For example, it makes sense to limit one’s fees. If one company has lower fees than another, that will affect the investor’s long-term level of success. That is a non-valuation factor. Another example of a non-valuation factor that matters is that most investors should be going with index funds rather than picking individual stocks. Failing to go with indexes is not a fatal mistake. But I do believe it is a mistake for all investors except those who possess the skill and willingness to do research needed to win at the stock-picking game.
My claim is that getting your stock allocation right is the most important thing (80 percent of the game). And that the investor MUST take valuations into consideration to get his stock allocation even roughly right. If you ignored valuations, you might have gone with a 74 percent stock allocation in 2000 (the Greaney study identified this allocation as “optimal” at all times). If you considered valuations, you probably went with an allocation of about 20 percent. That’s a big difference and getting that one right is going to pay off big time in the long run if valuations are indeed responsible for 40 percent of the market price (that is, if stocks continue performing in the future anything at all as they always have in the past).
The Vanguard study shows that the valuations factor is huge. It is the ONLY significant factor to which the investor can respond in an effective manner. All he needs to do is to look at the P/E10 value and make the required allocation changes. If he fails to do that, he hurts himself big time.
There is no excuse for any investment advisor to fail to stress the importance of valuations in the year 2014. A factor that determines 40 percent of the market price is far too important a factor to be ignored. I would go so far as to say that it is financial malpractice for any advisor to ignore the valuations factor (responsible for 40 percent of the market price according to Vanguard!) in the year 2014. Shiller did not publish his revolutionary research last week or last month or last year. He published it in 1981. That’s 33 years ago!
There are legitimate differences of opinion as to HOW MUCH one should change one’s allocation in response to valuation shifts. That’s why we need a national debate on these questions. We need to get all viewpoints re these matters aired! But the issue of whether valuation-informed allocation changes are required for those seeking to have some realistic hope of long-term investing success has been settled beyond any reasonable dispute. Even Vanguard (the lead promoters of Buy-and-Hold investing strategies) is on board! Bogle hasn’t given his “I Was Wrong” speech yet but the company he founded has published research showing why he needs to make it to come clean about false and deceptive claims he has made in earlier days which have done great financial harm to millions of middle-class investors.
Come clean, Old Saint Jack!
Do it before the close of business tomorrow!
Don’t worry about Mel Lindauer! I will take over the Bogleheads Forum and I will protect you from him!
Rob
Investors MUST change their stock allocations in response to big valuation shifts to have any hope whatsoever of keeping their risk profiles roughly constant over time.
If others MUST follow your rules, why don’t you follow them? Why haven’t you changed your stock allocation even 1% over the past almost 20 years? Why do you get flexibility to VII or buy and hold based on your personal situation?
There is an absolute need to make shifts. That is critical.
But shifts are only rarely needed.
From 1975 to 1996, there was no need for a shift.
From 1996 through today, there was no need for a shift.
I of course made a shift in 1996. As you well know, Anonymous.
You have a long history of suggesting that there was a need to make a shift in early 2009. That’s a false claim. It made sense to make a shift in early 2009. But there was no need to make a shift at that time and I elected not to make one.
There are circumstances in which a shift is required and there are circumstances in which making a shift makes no sense and there are circumstances in which whether to make a shift or not is a judgment call.
You help no one by playing dumb, Anonymous. This has been explained to you HUNDREDS of times.
You are on a path that puts you in a prison cell following the next price crash. You need to be asking yourself why you are engaging in behavior that has put you on that path and how you can get about the business of changing that behavior. We need to see more positive behavior by the close of business today. That is a matter of critical importance.
That’s my sincere take re this terribly important matter, in any event.
I naturally wish you all good things.
Rob
Why do you get flexibility to VII or buy and hold based on your personal situation?
Everyone gets that flexibility.
But no one has ever lived through an entire investing lifetime without having experienced the need to make a shift. The job of an investment advisor is to help people know when to make those shifts.
This one question (how to set one’s stock allocation so that one keeps one’s risk profile roughly constant over time) is 80 percent of the stock investing story. The reason why Buy-and-Hold is so dangerous is that the Buy-and-Holders lie about this question on a daily basis. Buy-and-Holders (and this goes all the way up to my good friend Jack Bogle) have been for years saying that there is some mystical, magical alternate universe where it might be okay not to practice long-term timing (that is, to make the necessary shifts). This is the biggest and most dangerous LIE ever told in the history of personal finance.
It is this LIE that has caused millions of failed retirements. It is this LIE that has caused four economic crises. It is this LIE that makes Buy-and-Holders so enraged when someone reports honestly and accurately what the last 33 years of peer-reviewed research shows us about how stock investing works in the real world.
We all need to pull together and persuade the Buy-and-Holders to stop telling this LIE. Things have reached a point where we need to send a good number of people to PRISON to get the job done. Because the Buy-and-Holders have hurt too many people to be able to acknowledge how much human misery they have caused.
We all should wish that we had spoken up sooner. It’s not only the Buy-and-Holders who have behaved poorly. We ALL behaved poorly by permitting them to tell this LIE for so many years.
We cannot change the past. We can only change the future. We all need to be doing all that we can to bring on those prison sentences so that the Buy-and-Holders will face up to the massive problem they have caused.
It didn’t start out as a lie. It started out as a mistake. But a mistake that has been covered up for 33 years is a LIE.
This massive LIE is in the process of destroying our country. Those who love our country need to work up the courage to stand up to the Wall Street Con Men and their Internet Goon Squads.
That is my sincere take re this terribly important question, in any event.
Rob
No one has to do anything you say. You are always free to set up your own investment firm or fund and let people decide on their own as to how they want to invest
I am also free to tell the millions of middle-class people whose lives have been destroyed by this massive act of financial fraud who is responsible for their financial losses.
I will do that. I can do no more and I can do no less.
I wish you all good things, my long-time abusive-posting friend.
Rob
It made sense to make a shift in early 2009. But there was no need to make a shift at that time and I elected not to make one.
Ok, I on the other hand did elect to shift my allocation in 2009. However I did not in 1996. What this shows is that there’s no “buy and hold” vs “VII”, but a bunch of people making choices based on their personal views and situations. No?
Obviously not.
Buy-and-Hold is a model for understanding how stock investing works that is based on research published by Eugene Fama in 1965.
Valuation-Informed Indexing is a model for understanding how stock investing works that is based on research published by Robert Shiller in 1981.
There are millions of good and smart people who believe in both models. There are far more today who believe in Buy-and-Hold but Valuation-Informed Indexing has been gaining supporters since the 2008 price crash and will no doubt gain many more following the next price crash.
The internet Goons who have put up posts in “defense” of Mel Linduaer and John Greaney and who will be going to prison following the next price crash are all Buy-and-Holders. Valuation-Informed Indexers have never experienced the humiliation and pain that the Linduaerheads and the Greaney Goons experienced when they learned about the 33 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.
That’s because Buy-and-Hold came first. Shiller published his research after an entire industry had been developed around promotion of the Buy-and-Hold concept. If men were angels, my good friend Jack Bogle would have stepped forward in 1981 and acknowledged the mistake he had (quite understandably) made in earlier years. Men are not angels and my good friend Jack failed to step forward promptly. Today he has destroyed so many middle-class lives that he is too embarrassed to come clean at this late date. In charity, we all should be trying to help him out. He is a giant and it is shameful that we have permitted this great man to destroy himself in this way.
Buy-and-Hold and Valuation-Informed Indexing are OPPOSITES. Buy-and-Hold is the most dangerous Get Rich Quick scheme ever concocted by the mind of mortal man (inadvertently — but still….). Valuation-Informed Indexing is the first TRUE research-based strategy. Valuation-Informed Indexing is the strategy that Bogle dreamed of someday creating when he was a young man. Valuation-Informed Indexing is what Buy-and-Hold was MEANT to be and what it WOULD be if only enough of us would work up the courage to cal my good friend Jack out on his b.s. and INSIST that he make that walk to the front of a big room to say The Three Magic Words permitting us all to experience the greatest period of economic growth ever seen in U.S. history.
I hope that helps a bit, Anonymous.
Rob
Rob,
You are free to tell anyone anything you want. Don’t expect others to have to follow it our allow it on their websites. Just like you, they can choose to not let you run your agenda on their turf, just as you have done here.
I believe that every web site on the internet will be running articles about this massive act of financial fraud following the next price crash, Anonymous. People are going to be angry and people are going to want to know who to sue to obtain compensation for their losses.
I DO expect every web site to permit honest posting today. Financial fraud is a crime under the laws of the United States. It is a felony. That means prison time.
When a site owner commits an act of financial fraud, I report it. I can do no more and I can do no less.
I hope that helps a bit.
Rob
I sometimes consider valuations, so am I buy and hold or VII? They are “opposites”, right?
You can’t answer, since this is where you delusions meet reality.
If you sometimes consider valuations and you sometimes do not, then you are following what we have referred to in earlier discussions as “Strategy C,” Anonymous.
You Goons noted in earlier discussions that it is rare to find an investor who follows a rigid Buy-and-Hold strategy. Even Bogle has endorsed variations from Buy-and-Hold. He has said that investors might from time to time want to change their stock allocations by as much as (but not more than) 15 percent because valuations have gone haywire. That’s Strategy C, not Buy-and-Hold. If you believed in Fama’s research, you would never make an allocation change because of a valuations shift. Fama says that the entire idea that there can be bubbles is silliness. He says that stocks are always priced properly, that the market is efficient.
Investors understand that Buy-and-Hold does not make sense. They understand that it does not hang together. So most have abandoned Buy-and-Hold for Strategy C.
Most investors do not feel comfortable with Valuation-Informed Indexing. For some, it’s because the experts do not endorse it. For some, it’s because it is too big a change from Buy-and-Hold. For some, it’s because they don’t want to acknowledge that a significant portion of their portfolio is comprised of cotton-candy nothingness. For some, it’s because they have never personally sat down and worked the numbers. For some, it’s because they do not feel comfortable not running with the crowd. Humans have a desire to do what most other humans do. Buy-and-Hold came first — so a good number of us became Buy-and-Holders and remain Buy-and-Holders. Strategy C has over time come to win over a good number of us — so an additional good number feel comfortable switching to Strategy C. But Valuation-Informed Indexing has never been a popular strategy (my sense is that about one in ten investors follow a VII strategy today). So those who like to go with the crowd generally do not feel comfortable going with a VII strategy.
Buy-and-Hold and Valuation-Informed Indexing are opposites. Buy-and-Hold is rooted in a belief in an efficient market, in a belief that mispricing can never exist because investors pursuing their self interest will quickly exploit any errors in pricing and thereby correct them. Valuation-Informed Indexing is rooted in a belief that it is investor emotions that determine stock prices, that the idea of an efficient market is a myth, something that we should strive for but something that we cannot attain until we give investors the information and tools they need to make rational choices (which would mean opening the entire internet to honest posting on safe withdrawal rates and scores of other critically important investment-related topics).
I understand the appeal of Strategy C and I of course acknowledge that investors are free to choose it if it appeals to them. But I of course feel bound to say that Strategy C possesses no theoretical appeal. If Fama is right, Buy-and-Hold is the ticket. If Shiller is right, Valuation-Informed Indexing is the ticket. There is no researcher who has made a theoretical case for Strategy C. Strategy C is a transition strategy, something that has won investors over during a strange time-period in which Buy-and-Hold has been entirely discredited but in which Valuation-Informed Indexing has not been able to win people over because the Ban on Honest Posting has prevented them from gaining access to the information and tools they need to become successful Valuation-Informed Indexers.
I don’t understand what you are trying to say when you say that “you can’t answer — this is where your delusions meet reality.”
I can answer. You follow Strategy C. Buy-and-Hold and Valuation-Informed Indexing are opposites but you (and millions of others) have placed your confidence in two opposite ideas at the same time. You know that valuations must matter. So you let valuations influence your decisions to a small extent. But you very, very very much don’t want to say the words “I” and “Was” and “Wrong” re Buy-and-Hold. So you ALSO let the idea that the market is efficient (that valuations DON’T matter) influence your decisions.
You are behaving irrationally and illogically.
Guess what? So are millions of other smart and good people! You are in good company!
I think you are making a mistake. I think the Buy-and-Holders were right when they believed that we should use the research as a guide. They still SAY that to this day. But they only talk the talk today, they no longer walk the walk. When Shiller showed that there is zero chance that a Buy-and-Hold strategy can ever work for even a single long-term investor, the Buy-and-Holders were overtaken by a massive case of cognitive dissonance. Strategy C is a strategy rooted not in research, but in cognitive dissonance. Cognitive dissonance rules most of us today.
I think that is unfortunate.
I believe (based largely on my many interactions with you Goons!) that investors need to feel confident in their strategies for them to work in the long run. It’s easy to hold when prices are generally going up with only a few price drops mixed in. It’s hard to hold when you lose most of the money that you were planning to use to finance your retirement. There has never been a secular bear market that ended at a P/E10 value of more than 8. That’s 65 percent down from where we are today. How many Buy-and-Holders will hold through that? I believe that it will be very few of them.
You Goons will be selling in the next crash, Anonymous. You will swear today that it is not so. But you have not yet experienced the emotions that will cause you to sell. Hearing me tell you what the peer-reviewed research says makes you emotional. But not nearly as emotional as seeing your retirement portfolio disappear! A P/E10 of 8 is insane. That is half of fair-value. We cannot get there unless just about all Buy-and-Holders sell. That includes you Goons. You can swear that it will never happen. But you swore at one time that the Greaney retirement study contains a valuation adjustment. You have been known not to tell the truth from time to time, Anonymous. I don’t think you are telling the truth about what you will do in the next crash. I think you will sell. I think that will be the end of Buy-and-Hold.
Buy-and-Hold possesses no theoretical appeal today. It once did. But that was 33 years ago.
Strategy C possesses no theoretical appeal. But it possesses a great deal of practical appeal for people who don’t want to acknowledge that Buy-and-Hold was a mistake. So Strategy C rules the day today. But a strategy that lacks theoretical appeal cannot stand the test of time. The popularity of Strategy C is a temporary phenomenon.
Valuation-Informed Indexing is the first TRUE research-based strategy. All of the research supports it. All of the data supports it. All logic supports it. All common sense supports it. There is only one thing holding back VII today — the hate that the Buy-and-Holders now feel for the peer-reviewed research (because of the embarrassment they feel over having made a mistake). When the Buy-and-Holders sell in the next price crash, they will give up that hate and Valuation-Informed Indexing will take over.
Or so Rob Bennett believes, you know? That is my sincere take re this terribly important matter.
I hope that helps a bit, my long-time abusive-posting pal.
Take care, man.
Rob
If you sometimes consider valuations and you sometimes do not, then you are following what we have referred to in earlier discussions as “Strategy C,” Anonymous.
You Goons noted in earlier discussions that it is rare to find an investor who follows a rigid Buy-and-Hold strategy. Even Bogle has endorsed variations from Buy-and-Hold. He has said that investors might from time to time want to change their stock allocations by as much as (but not more than) 15 percent because valuations have gone haywire. That’s Strategy C, not Buy-and-Hold.
Ok, so I talked to my wife in 2009, and decided to change my allocation based on valuations. You talked to your wife and, based on your unique situation and preferences, did not. And we know most investors consider valuations when investing:
http://www.bogleheads.org/forum/viewtopic.php?f=10&t=126576
So, whatever one academic or another thinks, we all pretty much invest the same way.
We all want the same things, Anonymous. We all want to obtain the best possible return at the lowest possible risk. And none of us know everything. We are all capable of making mistakes. If you want to say that that translates into “we all pretty much invest the same way” then, fine, I have no problem with that.
But then why the death threats?
And why the demands for unjustified board bannings?
And why the tens of thousands of acts of defamation?
And why the threats to get an academic researcher fired from his job?
There is something about the way that I invest that drives you freakin’ bonkers.
What’s that about?
Rob
It’s my intent today to bury Buy-and-Hold 30 feet in the ground.
But that wasn’t my intent on the morning of May 13, 2002.
My intent on the morning of May 13, 2002, was to point out that Greaney’s retirement study did not contain an adjustment for the valuation level that applies on the day the retirement begins and to argue that those thinking of handing in resignation notices to begin their early retirements might want to think twice as to whether the number that he called the “safe withdrawal rate” really was that given that he did not factor in the valuations effect.
It was on the evening of August 27, 2002, that it became my intent to bury the smelly Buy-and-Hold garbage 30 feet in the ground.
Why?
Because I believe that Shiller’s research is important. The guy won a Nobel Prize for it and I think we all should be exploring the implications of his revolutionary findings. And just about everybody but me is afraid to do so in public. That’s odd and unhealthy as all get-out. And the reason is that the Buy-and-Holders don’t want people to discuss these ideas.
There is no other investing strategy that causes its followers to behave in the manner in which I have been seeing Buy-and-Holders behave for 33 years now. There’s something different about Buy-and-Hold.
Deep down inside, Buy-and-Holders want the same things as Valuation-Informed Indexers. I do agree re that much. But there is something different about the Buy-and-Holders and it is that something different that causes all the problems we have experienced over these 12 years.
That’s the thing that I want to bury 30 feet in the ground. My friend Brian told me that I was “crazy” because of my investing views on many occasions. But never once did he give in to feelings of hate and we remain friends to this day. It is when Buy-and-Holders become filled with hate that it becomes necessary for us all to pull together to bury Buy-and-Hold 30 feet in the ground. Because human life just cannot sustain itself with all that hate being lashed out in every direction.
That has to stop.
Not tomorrow.
Tonight.
That’s my sincere take re these terribly important matters, in any event.
I care about you. That’s why I want to see you rein in the hate that is destroying you (and millions of others).
Rob