Shiller’s Research Findings Are The Cancer Cure Of The Investment Advice Field

Shiller’s Research Findings Are The Cancer Cure Of The Investment Advice Field

Every now and again an article pops up which indicates that we are close to finding a cure for cancer. It’s hard to accept that something so wonderful could ever happen. But of course there was a time when it would have been hard to accept that we would be able to light our houses at night by flipping a switch. Huge advances really do take place from time to time. I hope that I live to see the cure for cancer introduced to the world.

Would there be resistance to it?

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Cynics point out that many thousands of people earn their living treating cancer. Those people would be out of work if a cure were introduced to the world. I don’t believe that the forces of resistance could block us from learning about the cure for cancer for long. There are too many people who have an intense interest in discovering a cure for word of it to be kept from people indefinitely. Perhaps word of the cure could be delayed for a bit. That’s the worst that could happen, in my assessment.

Robert Shiller has developed the equivalent of the cure for cancer in the investment advice field, in my assessment. What is the bad side of stock investing? It’s the possibility of losing most of your life savings in a short amount of time. Stocks are a super asset class most of the time. But there are those rare occasions when they deliver a wipe-out that remains in effect for a considerable stretch of time. Wipe-out losses are not forgotten by the investors who experience them. Wipe-out losses are the one black mark on an otherwise golden investment class. Wipe-out losses are the cancer of the investment advice realm.

Shiller developed the cure.

There’s really only one thing that Shiller says about how stock investing works that is different from what all those who came before him said. The Buy-and-Holders say that it is rational assessments of the effects of economic developments that cause stock price changes. Shiller says that stock price changes are caused by shifts in investor emotion. When stock prices climb to where they are today, it’s not because we are living in good economic times, it is because of an irrational exuberance that has pushed stock prices up to crazy, unsustainable levels.

If that’s true, that’s the cure for wipe-out price drops. If the Buy-and-Holders are right, high stock prices are not cause for concern. Why should anyone be concerned that investors have responded rationally to good economic news? If the Buy-and-Holders are right, high prices are something to celebrate. But, if Shiller is right, high stock prices are something to fear. Emotion-based gains obviously cannot last. If Shiller is right, high stock prices signal a price crash to come. So all investment experts and all ordinary investors should be doing all they can to pull prices down once they see them rise to scary levels.

It wouldn’t be hard to pull prices down if we made the effort. Today, when stock prices go up, we celebrate. The newspapers treat bull markets as good news and most of us share the feeling. What if most of us came to believe that Shiller is on to something, that high stock prices are poison both to our personal hopes of financing secure retirements and to our hopes for general economic prosperity? What if we reacted to bull markets with a determined effort to bring them to a quick stop by selling whatever stocks we need to sell to bring prices back to fair-value levels?

In that sort of wonderful world, the sort of world that I believe will be our future, we would never see another sustained bull market. We might see little bull flashes from time to time when we permitted a bit of irrational exuberance to evidence itself. But so long as we remained convinced that bull markets bring pain and misery and are not fun at all, they could never develop into the sorts of monsters that have been scaring people out of buying stocks ever since the first stock market opened for business.

The end result of a bull market is a bear market. But the cure for a bull market is the development of a deep understanding that bull markets produce only Pretend Money, money that is fated to disappear in a wipe-out crash in days to come. Shiller showed with peer-reviewed research that valuations affect long-term returns, that investor emotionalism is in the long run not a good thing but a bad thing. Once we know that, the problem disappears. Stock prices become self-regulating in a world in which most investors understand the far-reaching implications of Shiller’s Nobel-prize-winning research.

It won’t make your Buy-and-Hold friends happy if you discuss Shiller’s cancer cure in their presence. They have a big emotional investment in the pre-Shiller understanding of how stock investing works. And their resistance efforts have succeeded in holding back advances in understanding for a far longer time than I once would have thought even remotely possible. But I believe that efforts to resist an advance so important to so many people are ultimately doomed. We are all in the same boat. We all need to know how stock investing works. Shiller’s research solved puzzles that the Buy-and-Holders were not able to solve. His insights will win the day before too much more sand passes through the hourglass. It is my expectation that the pace of change will pick up considerably in the days following the next price crash.

Rob’s bio is here.

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Rob Bennett’s A Rich Life blog aims to put the “personal” back into “personal finance” - he focuses on the role played by emotion in saving and investing decisions. Rob developed the Passion Saving approach to money management; Passion Savers save not to finance their old-age retirements but to enjoy more freedom and opportunity in their 20s, 30s, 40s, and 50s - because they pursue saving goals over which they feel a more intense personal concern, they are more motivated to save effectively. He also developed the Valuation-Informed Indexing investing strategy, a strategy that combines the most powerful insights of Vanguard Founder John Bogle and Yale Professsor Robert Shiller in a simple approach offering higher returns at greatly diminished risk. Tom Gardner, co-founder of the Motley Fool web site, said of Rob’s work: “The elegant simplicty of his ideas warms the heart and startles the brain.”
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