Valuation-Informed Indexing #292
by Rob Bennett
Step One: The Buy-and-Holders Accept That a Debate Is Inevitable.
David Einhorn Buys Three New Stocks: These Are The Names And Theses (Q3 Letter)
David Einhorn's Greenlight Capital funds returned 5.9% in the third quarter of 2020, compared to a gain of 8.9% for the S&P 500 in the same period. This year has been particularly challenging for value investors. Growth stocks have surged as value has struggled. For Greenlight, one of Wall Street's most established value-focused investment funds, Read More
This is a turf battle. Eugene Fama and Robert Shiller have both won Nobel prizes for saying opposite things about how stock investing works. It’s not possible that both are right. The natural thing would have been for the debate to have been launched in 1981, when Shiller published his “revolutionary” (his word) research findings. Things got held up because there is so much money to be made in this field and, by the time Shiller published his research, thousands of people had built careers promoting Buy-and-Hold strategies. These people were naturally not too excited about the idea of acknowledging that they had been giving bad advice for a long time.
The reality is that sooner or later they are going to have to at least acknowledge that possibility. A Nobel prize cannot be denied. And, if Shiller is right, the promotion of Buy-and-Hold strategies caused an economic crises. This affects everyone. So the debate has to come. Once that is widely recognized, the question changes from whether or not to have the debate to how to proceed with the important business of launching it.
Step Two: Industry Leaders Recognize How Much Money There Is to Be Made by Moving Forward.
I often hear a cynical response when I make the case for the launching of a national debate. People say that there is too much money made promoting Buy-and-Hold for the industry to permit a debate that might discredit the strategy. I don’t think that’s right. Valuation-Informed Indexing reduces risk dramatically. Millions of middle-class people resist the lure of stocks because they are are turned off by the idea of taking on too much risk with their retirement money. A transition to the Shiller model would increase profits for those in the stock-selling industry, not diminish them.
The problem for many years has been that profits were good enough as a result of the huge bull market and so there was a feeling that there was no cause to rock the boat. The next price crash will change that. After prices fall hard again, the industry will be feeling the pinch and will go looking for ways to restore public confidence in the market. That’s when people will see that the model of the future has been available to us for 35 years, it’s just been a question of us developing an interest in taking advantage of the opportunity.
Step Three: Jack Bogle Says “I’m Not Entirely Sure” Whether Fama or Shiller is Right.
The debate has been delayed because the Buy-and-Hold Model was established first and getting investing right is so important that the Buy-and-Holders have thus far not been able to acknowledge even the possibility of their having made a mistake. That changes on the day when Bogle says the words “I’m” and “Not” and “Sure” in a public place and his words are written up on the front page of the New York Times.
Everyone who works in this field would interpret those words as giving them permission to talk openly about the case against Buy-and-Hold. Once there are people speaking openly and clearly and firmly on both sides of the story, we will all be engaged in an amazing learning experience.
Step Four: Behavioral Finance Experts Seek to Distinguish Themselves By Drawing Sharp Contrasts Between Their Advice on Strategic Questions and the Advice Offered by the Buy-and-Holders.
Behavioral Finance has been a growing field for many years. But it has had little impact in the practical realm because the Behavioral Finance experts have shied away from showing how a model that considers the effect of human psychology on investing choices leads to very different advice on strategic questions (particularly asset allocation questions). For so long as Buy-and-Hold has remained dominant, it has seemed “rude” to point out that the Buy-and-Hold advice on just about every question is dangerous if Shiller is right that valuations affect long-term returns and that risk is thus not static but variable.
Once the floodgates are opened by Bogle’s historic speech, each of the Behavioral Finance experts will tap into a healthy competitive instinct to distinguish himself or herself by showing how different his or her advice is from the conventional Buy-and-Hold advice. We will see 35 years of insights developed and explained and promoted and explored in the space of a few years. Exciting times!
Step Five: Thought Leaders Recognize the Need to Help the Buy-and-Holders Save Face.
We need to see a battle of ideas, not a battle of personalities. We want the Buy-and-Holders working with us, not against us. The Buy-and-Holders built the foundation on which Valuation-Informed Indexing is built. It would be as crazy for us to come to see them as enemies once the debate is launched as it has been for them to see us as enemies during the decades in which it has been delayed.
Wise heads will prevail. We will see that we are all in this together. As a result, things will move ahead at a quick pace once things begin moving ahead. The Buy-and-Holders have a lot to contribute and they will do so so long as we are careful to acknowledge their many genuine achievements.
Step Six: The Political Implications of Shiller’s Breakthrough Come to Be More Widely Appreciated.
It was the promotion of Buy-and-Hold strategies that caused the economic crisis (by encouraging stock prices to soar to insanely dangerous levels and then by causing the economy to lose trillions of dollars of buying power when the bubble popped). The economic crisis affects all of us, not just the investing industry and not just those who buy stocks. The debate will go into high gear when it becomes widely understood that we all have a stake in insuring that we all have access to sound and responsible and research-backed investing advice. The stock-selling industry has been dragging its feet for a long time. But this is bigger than the stock-selling industry.
Step Seven: Outsiders Flood into the Stock-Selling Industry.
The launching of the debate need not be perceived as a threat to those currently working in the field and promoting Buy-and-Hold strategies. But it will speed things up when initial discussion of the new model shows the need for the industry to welcome new types of experts. We will be seeing a transition from a focus on math-based skills to a focus on psychology-based skills. The new blood will bring the field alive (but we are of course always going to need lots of people with math-based skills in this field).
Rob Bennett’s bio is here.