Valuation-Informed Indexing #185
by Rob Bennett
I’ve got common sense on my side. I’ve got 32 years of peer-reviewed academic research on my side. I’ve got 140 years of historical return data on my side. I’ve got a faltering stock market on my side. Valuation-Informed Indexing should have taken over the world by now. It hasn’t. Not by a long, long, long. long shot.
Gates Capital's ECF Value II fund was up 9.4% for the first quarter, compared to the HFRI Event-Driven Index's 8.2% gain, the Russell 2000's Value Total Return Index's 21.2% gain, and the S&P 500's 6.2% return. Q1 2021 hedge fund letters, conferences and more Gates Capital Management is an event-driven value . . . SORRY! Read More
What’s holding things up?
The biggest problem is the distinction between what works for people giving investing advice and what works for people hearing investing advice. Those hearing advice need to hear what works. That’s Valuation-Informed Indexing. Those giving investing advice can do better for a time going with what sells. Buy-and-Hold sells. It appeals to the Get Rich Quick urge within all of us. So it sells really, really, really well.
But I believe that that is going to change following the next price crash. There are six reasons:
- Buy-and-Hold advocates will no longer be able to take credit for the Pretend Money created by the bull market following the next price crash. At the top of the bull, the market was overpriced by $12 trillion. Most investors were looking at hundreds of thousands of dollars of phony gains in their portfolios as real. Those who talked about the findings of the last 32 years of peer-reviewed academic research were perceived as taking money out of people’s pockets. There won’t be any Pretend Money left following a crash that takes us to P/E10 levels below 15.
- The research-based case for Valuation-Informed Indexing gets stronger all the time. Buy-and-Hold advocates have gotten huge mileage out of their claim that they are promoting a research-based strategy. That hasn’t been so since 1981, but most people don’t yet know it’s not so. When word gets out (and I believe it will after the crash, when lots of people will be asking questions re what happened to their retirement money), it will be the Valuation-Informed Indexers who will enjoy the marketing cachet that comes with promotion of a research-based strategy. That’s a big deal. Millions of middle-class people feel intimidated by stock investing and the assurance that comes from knowing that there is legitimate research backing up their strategies means a lot to them.
- The pent-up demand for a national debate will cause an explosion of free marketing for the Valuation-Informed Indexing concept. A national debate on the relative merits of Buy-and-Hold and Valuation-Informed Indexing should have been initiated in 1981, when Shiller first showed with numbers that the core Buy-and-Hold belief (that the market is efficient and that thus price need not be considered when setting one’s allocation) does not stand up to scrutiny. For all the reasons often explored in this column, we haven’t yet seen that debate. But I have spoken to lots of people in this field who are longing for the day when they can go public with their doubts about the Buy-and-Hold story. A debate deferred is a debate intensified. Millions of people will be shocked to learn how strong the case has been against Buy-and-Hold for many years now. Their desire to understand how things played out as they did will fuel endless discussions of the Valuation-Informed Indexing story, which will help millions to explore all aspects of the new strategy in a remarkably short amount of time.
- The economic implications of the Valuation-Informed Indexing concept will provide rocket fuel to marketing efforts for it. Most people invest because they have to, not because they want to. It is a small percentage of the population that is in the market for a book on investing. But just about everybody has thoughts on the economic crisis. We have not yet as a society come to terms with the economic crisis because we have been reluctant to blame Buy-and-Hold and the insane overvaluation of stocks that we saw during the bull market. When that issue breaks through, it won’t be just those interested in investing participating in the debate over the transition from Buy-and-Hold to Valuation-Informed Indexing. The debate will pull in lots of people with a primary interest in political and economic questions who will provide fresh ideas that much need to be heard by those who thus far have looked at only the pure investing questions.
- Once the dam breaks, people will see opportunities everywhere to do good while also doing well. Valuation-Informed Indexing totally rewrites the rulebook. We are going to need thousands of new books. We are going to need hundreds of new calculators. We are going to see new thought leaders replace old thought leaders, new web sites replace old web sites. Until now, the feeling has been that it is safer to align oneself with the conventional thinking. But there will be no saving the conventional thinking following another price crash. At that point, all those who have been holding back from sharing their insights will be scrambling for position in the new order and even those who have advocated for Buy-and-Hold strategies in earlier days will be aiming to reposition themselves and thereby to remain relevant in a world in which everyone has become aware of the long unmentionable dangers of Buy-and-Hold strategies.
- The psychological side of the story will provide fresh material for many years to come. The reason why Valuation-Informed Indexing represents such a huge advance is that this is the first strategy that takes into consideration the emotional side of stock investing while retaining the numbers focus that made Buy-and-Hold seem credible to so many. We are today in the process of working up the courage to open a door that has remained closed for a long time. Going by what I have learned through my personal investigations of the past 12 years, we are going to be amazed over and over again at how much wonderful stuff comes tumbling out. The triumph of the Valuation-Informed Indexing model over the Buy-and-Hold Model will not be a one-day or a one-month or a one-year story. Decades of powerful insights will inspire more and more creative work on the part of thousands of creative people once enough momentum is established to remove the stigma that has been holding back progress thus far.
Rob Bennett has recorded a podcast titled Investing Ethics: An Oxymoron? His bio is here.