Beyond Buy-and-Hold #49
Yale Economics Professor Robert Shiller published a book in March 2000 titled Irrational Exuberance. It’s a great book that sold lots of copies and won lots of praise from lots of important people.
There’s only one problem. It does not appear that too many people read the book carefully enough to appreciate its many far-reaching implications. We need to change that. This is an important book. We need to read it and debate it in civil and serious discussions. We need to have a national debate on what this book tells us about how we all should be investing our retirement money.
The penalty for marching to the beat of a different drummer
I was banned from the Morningstar.com discussion boards because I explored implications of the Irrational Exuberance book in posts that I put to the site’s Vanguard Diehards board. I thought that was exceedingly odd because not once did I break any posting rule and the published rules (which everyone who posts to the site must promise to follow) state that the expression of a variety of viewpoints on all issues discussed is both permitted and encouraged.
So I looked carefully at the e-mail sent to me by the Morningstar site administrator to find out why it was that I was banned. The site administrator was able to state the problem in a single word. My posts to the Vanguard Diehards board were —
A high percentage of the community that meets at the Vanguard Diehards board (now the Bogleheads Forum) was very upset with things I said. But was it my words that caused such emotional discomfort to the Buy-and-Holders? Or was it that my words reported on the 30 years of academic research backing up Shiller’s finding that valuations affect long-term returns?
The basic lessons of Irrational Exhuberance
It’s this Shiller fellow who is the real troublemaker. I’m just a mild-mannered reporter who lets people know the realities as revealed to us by the academic research of the past three decades. Here are five Shiller insights the discussion of which I promise will get you banned from Morningstar, Bogleheads or any other discussion board at which a good number of Buy-and-Holders congregate:
1) Shiller says in the subtitle of his book that he is presenting “the national bestseller that revolutionized the way we think about the stock market.” To revolutionize something is to change it in a fundamental way. Buy-and-Hold has been the dominant model for understanding stock investing for several decades now. So Shiller’s claims, if they hold up, do away with Buy-and-Hold. That’s naturally inflammatory news to Buy-and-Holders.
2) Shiller describes the stock market at times when it is insanely overpriced (as it has been since 1996) as a “Ponzi scheme.” Millions of middle-class investors were persuaded by Buy-and-Hold advocates to put large percentages of the money they were hoping to use to fund their retirements into the stock market during the years when it could fairly (according to Shiller) be characterized as a “Ponzi scheme.” That’s naturally inflammatory too.
3) Shiller predicts the economic crisis that will inevitably follow from the widespread promotion of Buy-and-Hold strategies. He says: “The real losses could be comparable to the total destruction of all the schools in the country, or all the farms in the country, or possibly even all the homes in the country.” Imagine how much better off we all would be today if we had begun rebuilding our society when we first learned about the damage done to it during the Buy-and-Hold years!
4) Shiller argues that those who invested their retirement money in stocks at the prices that applied at the time the book was published would likely live to regret it. He says: “The recent values of the price-earnings ratio, well over 40, are far outside the historical range of price-earnings ratios. If one were to locate such a price=earnings ratio on the horizontal axis, it would be off the chart altogether… Suffice it to say that the diagram suggests substantially negative returns, on average, for the next 10 years.”
5) Shiller describes what has happened on the three previous times in U.S. history when Buy-and-Hold strategies became popular. He says that: stocks have gone to two times fair value four times in U.S. history. The 20-year real stock return on those four occasions has been: (1) a negative 0.2 percent; (2) 0.4 percent; (3) 1.9 percent; and (4) we are still in the early years of the economic crisis resulting from the 1990s bull market. If stocks were to continue to perform in the future at least somewhat as they always have in the past, we will see another 65 percent price drop over the next few years.
Sometimes the truth IS inflammatory
I think Shiller is right. What I say about stock investing is certainly inflammatory to Buy-and-Holders. I don’t deny it. I am guilty as charged of the crime of being “inflammatory.”
But what’s the alternative to being inflammatory, given the hundreds of millions of dollars that The Stock-Selling Industry has directed to the promotion of Buy-and-Hold strategies? Should we all let our economic and political system collapse because we don’t want to cause any emotional discomfort for the people who bought into these ideas?
This is a case where being inflammatory is being kind and responsible and loving. In an ideal world, it’s the actions of those who continue the cover-up of the Big Fail of the Buy-and-Hold model that would be viewed as shocking.
Rob Bennett argues that when stock prices are high, cash is king (and he’s got the numbers to prove it!). Rob’s bio is here.