I’ve posted Entry #570 to my Valuation-Informed Indexing column at the Value Walk site. It’s called Buy-and-Hold Strategies Create a Bad Feedback Loop.
Juicy Excerpt: Consider what happens to stock investors who push stock prices up to unsustainable highs. What happens in the real world is they are hit with financial penalties, just as is the driver who fails to observe the speed limit. Every time stock prices go up, the most likely long-term return on stocks goes down. A price rise puts more money in the investor’s portfolio, which of course gives him a good feeling. But price rises that take the CAPE value above its fair-value level also lower the going-forward return enough to counter that good feeling. Investors who are informed of the realities of stock investing do not get excited about price rises greater than those justified by the economic realities because they know that they are temporary.
Buy-and-Holders don’t see things that way. In the Buy-and-Hold mindset, investors are 100 percent rational in the decisions they make regarding stock investing. So there is no such thing as overvaluation — the market always gets prices just right. Even crazy price increases are believed to be justified by economic developments. So there is no reason to believe that they will disappear. Price increases that are justified by the economic realities are good news for everyone. Times of big stock price increases are times of strong economic growth. What’s not to like?
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