by Rob Bennett
There are four proofs showing that we need as a society to begin making the transition from Buy-and-Hold Investing to Valuation-Informed Indexing.
Proof One is the commonsense argument that valuations simply must affect long-term returns. If it really were true that valuations have zero effect, stocks would be the only thing that it is possible to buy for which the price at which they were sold had no effect on the value proposition obtained. This idea is so exceedingly counterintuitive that we should properly demand a compelling case before being willing to give our assent to it. Valuations must matter. So the rational investor accepts that they do.
To be fair to the Buy-and-Holders re this one, I need to note that none of the Buy-and-Holders with whom I have discussed Valuation-Informed Indexing has said that he or she believes that valuations do not affect long-term returns. There seems to be something close to universal acceptance of this point. What Buy-and-Holders refuse to acknowledge, however, is that it is possible for investors to profit from this reality by increasing their stock allocation when prices are low and by lowering their stock allocation when prices are high.
If the value proposition is stronger when prices are low, there has to be a benefit to going with a higher stock allocation when prices are low. The Buy-and-Hold position fails to satisfy even minimal demands of logic. This is strong evidence that the Buy-and-Hold Model is rotten to its foundations.
Proof Two is that even many big-name Buy-and-Hold advocates on occasion present a compelling case for Valuation-Informed Indexing and a compelling case for why Buy-and-Hold can never work for the long-term investor. Chapter Two of Bill Bernstein’s book The Four Pillars of Investing offers the best short explanation of why Valuation-Informed Indexing is superior that I have read (the other chapters of the book advocate Buy-and-Hold strategies). I learned of the errors in the Old School safe withdrawal rate studies by reading John Bogle’s explanation of how Reversion to the Mean is an “Iron Law” of stock investing.
The fact that its leading advocates often make the case against Buy-and-Hold is compelling. These figures have all the reason in the world to argue that Buy-and-Hold works and that the case for it is rock solid. I think it is fair to say that they would not often be bringing up reasons why their preferred strategy cannot work unless the case against their preferred strategy were strong indeed.
Proof Three is that the entire historical record (we have available to us stock return data going back to 1870) shows that Buy-and-Hold never works for the long-term investors (it often works for the length of an out-of-control bull market, to be sure) and that Valuation-Informed Indexing always provides far superior returns at greatly diminished risk. For example, recent academic research shows that VII beat Buy-and-Hold in 102 of the 110 rolling 30-year time-periods now in the historical record.
If the New York Yankees beat the Boston Red Sox in 102 of 110 match-ups, we would not say that the Yankees were experiencing a lucky streak We would say that the Yankees possess superior pitching or superior hitting or perhaps both. The entire historical record of stock investing in the United States shows that Valuation-Informed Indexing is superior to Buy-and-Hold. That’s not opinion. That’s objective fact.
Proof Four is that the reaction that we have seen from Buy-and-Holders during the first nine years of our internet discussions re the realities of stock investing has been exceedingly defensive. No Buy-and-Holder in all that time has presented even a sliver of evidence that long-term timing does not always work while Valuation-Informed Indexers have presented a mountain of data showing that long-term timing always works and in fact is required for those seeking to have a realistic chance of long-term investing success.
It gets worse. The Buy-and-Holders have become so frustrated over their inability to make a data-based argument in support of their favored investing strategy that they have insisted that honest and informed posting be banned at many of the investing boards and blogs at which they particulate. This is strong evidence that even long-confirmed Buy-and-Holders lack confidence in their strategy.
Each of the Four Proofs possesses great power in its own right. The combined power of the Four Proofs is undeniable to those engaged in a serious, rational effort to make sense of the investing project, in my assessment.