There are sections of Irrational Exuberance regarding equity price collapse that I am drawn back to again and again out of a need to make sense of them. One of those sections is part of an update that Shiller provided in a recent edition of the book. He described being prepped for a television interview by the producer, who warned him to be careful not to say anything that could cause stock prices to drop hard.
The story makes one feel a certain sympathy for the producer of the television segment. She understands that words that are spoken on her program reach lots of people and that the topic being discussed when Shiller is the guest is one that can cause people to feel a good bit of emotional distress. Shiller argues that today’s stock prices are not real, that they are largely the product of irrational exuberance.
People who have their hopes for retirement riding on a belief that the numbers on their portfolio statement are solid are naturally going to be made to feel uneasy by hearing Shiller’s message. One could argue that the producer was performing a public service by permitting Shiller’s message to be widely heard.
Price collapse and Shiller
In one sense, it seems entirely appropriate that she would want to ensure that her guest would not say anything to disrupt the market in a serious way and thereby to cause millions of people (even many people who are not viewers of the television program but whose fortunes would be affected by what viewers of the program did in response to Shiller’s comments) to suffer pain.
Shiller himself obviously does not want to cause people to suffer pain. I am sure that he has been warning himself not to say things that might disrupt the market ever since he first stepped on the public stage. So he hardly needed to hear the producer’s warning.
Do Buy-and-Holders face these sorts of concerns? When they appear on television programs, do producers warn them not to say anything that might cause stock prices to rise too high?
The idea is laughable. We know that that does not happen. Price increases are good. Only price drops are bad.
That cannot be, though, can it? It is the core job of a market to get prices right. It is a logical impossibility that all price moves in one direction are good and all price moves in the other direction are bad. The best price is the right price. Prices that are too high are just as bad for investors as prices that are too high.
price collapse and equity valuations
I face these sorts of questions when I post on discussion boards and blogs. Furthermore, I have been arguing for 17 years now that, given Shiller’s findings that valuations affect long-term returns, the safe withdrawal rate cannot possibly always be the same number (the Buy-and-Holders say that it is always 4.0 percent) but must vary with changes in valuations, rising sometimes to as high as 9.0 percent and dropping at other times to as low as 1.6 percent. I made lots of friends at a board that focused on planning for an early retirement. Things I said hurt the feelings of a lot of people who were planning to hand in resignations based on the Buy-and-Hold numbers and who were shocked to hear me question them.
If the numbers are wrong, we need to question them, don’t we? If Shiller is asked a question, he needs to give the best answer that he is able to give, based on the research and study that he has done, even if it might upset some people for him to do so. It seems to me that the very fact that the producer would issue the warning to him shows that she has doubts herself about the validity of the Buy-and-Hold Model.
Buy and hold
If Buy-and-Hold were real, there is nothing that Shiller or anyone else could say that could cause a price collapse. The Buy-and-Holders say that prices reflect economic realities. Nothing that Shiller could say in a television interview could change the economic realities. So there should be nothing that he could say that could cause a price collapse. It’s possible, of course, that there could be some overly emotional people who would respond inappropriately to Shiller’s words. But, according to the theory, if those people reacted in a way that caused an inappropriate price drop, other, less emotional investors would step in to exploit the overreaction and set things right. The market should be strong enough to take some hits and bounce back.
The producer clearly had doubts over whether the market is strong enough. And Shiller has such doubts -- he is always careful about how he phrases things, he aims to avoid inflammatory remarks. Everybody walks on eggshells when it comes to criticizing the market. No one wants to be the one who sends prices downward.
I share that sentiment. I certainly don’t ever want to cause another person to suffer financial losses. But it goes against my nature to agree to walk on eggshells re these matters. If I bought into the idea that it is best never to say anything that upsets investors, I would not report the accurate safe withdrawal rate numbers. But it is impossible for me to accept that that is the way to go. People who plan their futures based on inaccurate retirement planning numbers are going to get hurt by it somewhere down the line. I view it as cowardly not to report the accurate numbers. It is okay to include caveats and things of that nature. But I see a need for at least some basic honesty.
People think of the investing field as being filled with hard-boiled numbers crunchers. This isn’t a field for people with liberal arts backgrounds.
Accounting vs behavioral
My experience is that the thinking done in this field is not hard at all. It is extremely soft, scary soft. The people who work in this field are smart, there’s no question about that. But they are afraid of their shadows. They have a voice in their head with the words that the television producer delivered to Shiller on constant repeat: “Don’t say anything that might cause a price collapse.”
If we are so close to a price collapse that a few people saying the wrong thing could cause one, we are doing this investment advice thing wrong. The market should be strong enough to cope with some heated debate over where prices should be. The fact that we all feel a need to walk on eggshells is scary.
Rob’s bio is here.