A Clash of Investing Faiths

Beyond Buy-and-Hold # 39

Some people believe in God.

Some people don?t.

Have you noticed that those who believe find new evidence of God in everything they see? They look at the stars and they see evidence of God. They look at the grass and they see evidence of God. They experience hard times and that brings them to a closer relationship with God.

But those who do not believe find evidence that there is no God in everything they see. They look at the stars and they see evidence there is no God. They look at the grass and they see evidence that there is no God. They experience hard times and they become more confirmed in their minds that there is no God.

Both groups see the same things. They come to opposite conclusions about just about everything. Because they examine the same inputs from entirely different perspectives. It?s often the starting point in a logic chain that determines its ending point. Get the fundamentals wrong and you can never end up in the right place no matter how much work you put into the project.

The FIRECalc retirement calculator

Bill Sholar is a friend of mine (I met him at a Motley Fool discussion board a good number of years back) who created the FIRECalc retirement calculator. I view FIRECalc as analytically invalid because it does not contain an adjustment for the stock valuation level that applies on the day the retirement begins.

There were often fireworks when I posted at a discussion board that Bill founded (the board is called the Early Retirement Forum; Bill no longer owns it) because most community members there were using Bill?s calculator to plan their retirements and I would argue that the calculator is going to cause many failed retirements among those who use it. Bill once said something about this controversy that I think was wise.

He said: ?Folks, we have a good bit of disruption in the ranks. Some of the disruption is in the form of a Baptist running occasionally into Methodist services, and claiming that some of their beliefs are heresy. This seems to generate (a) almost zero real dialog about the merits and demerits of the beliefs, and (b) a strange combination of ad hominem attacks and defensiveness.?

He is saying that the differences that we have seen evidence themselves over how stock investing works are differences of faith.

He?s right.

Why can?t we all just get along???

The people who believe that Buy-and-Hold is the ideal investing strategy are looking at the same historical stock-return data that I look at to conclude that it is the most dangerous Get Rich Quick scheme ever concocted by the mind of mortal man. How is it that we can look at the same data and come to such dramatically different conclusions? Our analyses stand on different foundations. We are filtering the data points through perspectives rooted in very different premises.

The premise of all Buy-and-Hold thinking can be reduced to three words: Timing Never Works.

The premise of all Valuation-Informed Indexing thinking can be reduced to two words: Valuations Matter.

We fight and fight and fight and fight and never get anywhere with it because we do battle over the fine points and it is not in the fine points that the differences lie. We will resolve our differences only when we become willing to go deep.

Buy-and-Holders are not crazy or evil or dumb. There?s a reason why they believe that timing never works. There?s a mountain of research showing this.

Valuation-Informed Indexers are not crazy or evil or dumb either. There?s a reason why they believe that valuations matter. There?s a mountain of research showing this too.

So we?re both right!

But wait. If we?re both right, why are we in disagreement?

If valuations matter, timing must work If valuations matter, stocks offer a better value proposition when they are well priced than they do when they are poorly priced. If the value proposition changes, it makes no sense to go with the same stock allocation at all times; we should be going with higher stock allocations when prices are low and with lower stock allocations when prices are high.

But that?s timing! That?s doesn?t work!

No — Actually, it does.

Some investment timing systems actually DO work

The solution to the riddle is that timing always works and timing also never works. It depends on what kind of timing you are talking about. Short-term timing never works because stock prices are determined by unpredictable investor emotions in the short term and long-term timing always works because stock prices are determined by predictable economic realities in the long term.

In asking you to go beyond Buy-and-Hold, I am not asking you to do a small thing. I am not trying to persuade you merely about a point relating to asset allocation or retirement planning or risk management. I am asking you to do something very big. I am asking you to change your investing religion. I am asking you to change how you view every stock investing question that comes up.

I am saying that the entire Buy-and-Hold project was a mistake that must be abandoned before it does more damage.

I wouldn?t ask if I weren?t so sure about how much better you will feel about your financial future once you do.

Rob Bennett has written a case study on financial life planning. Rob?s bio is here.

( Photo from Flickr by Helico )

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