The Scary Reality Is That No One Knows for Sure How Stock Investing Works

Wade Pfau and I co-authored peer-reviewed research showing that market timing has been working to risk of stock investing for as far back as we have good records of stock prices. Additionally, the research demonstrates that Valuation-Informed Indexing (which posits that market timing is the key to long-term investing success) is superior to Buy-and-Hold. That’s not the conventional view today. That’s very, very, very much NOT the conventional view.

One journal rejected the paper. One of the reviewers who voted for rejection commented: ““The elephant-in-the-room question is — What is the ultimate criterion for one to conclude with confidence that one strategy is better than the other?”

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Q4 2019 hedge fund letters, conferences and more

A Look At The Portfolio Of Billionaire Charlie Munger

Charlie MungerCharlie Munger is one of the world's greatest investors. Over the past six decades, he's helped his business partner and friend, Warren Buffett, turn a struggling textile business called Berkshire Hathaway into one of America's largest firms. Q3 2020 hedge fund letters, conferences and more If you’re looking for value stocks, and


I think about that comment all the time. On the one hand, I see it as a crazy argument for rejecting a paper for publication in a peer-reviewed journal. If we are not sure what is the ultimate criterion, shouldn’t we be encouraging the publication of as much research as possible so that we can figure that one out? The purpose of research is to help us learn. This fellow seems to believe that we should not publish research unless we know in advance the answers to all of the questions that the research raises. I come at this question from just the opposite direction. The less certainty there is about an issue, the more research is needed.

Academic Research on investing

In this fellow’s defense, his comment reveals a refreshing lack of dogmatism. He rejected the paper. I see that as a bad call. But he clearly was intrigued by the case that the paper presented. It made him think. He didn’t reject the paper on grounds that it did not address important questions or did not do so in an effective manner. It appears to me that he rejected it because the implications of the questions raised by the paper were too far-reaching. The paper was unsettling.

The paper was scary.

I think that Shiller’s research is exciting. If market timing works, we can reduce the risk of stock investing dramatically. The paper that I co-authored with Wade shows that we can reduce the risk of stock investing by nearly 70 percent by encouraging investors to practice market timing. That’s stunning. If Shiller’s Nobel-prize-winning research is legitimate, we can do a lot of good by exploring its far-reaching implications and by teaching people about this new way to invest.

But....

Can we be absolutely sure that market timing is a good idea?

Risk of stock investing and timing

We cannot be absolutely sure. It can take 40 years for a bull/bear cycle to resolve. And we only have good records of stock prices going back 150 years. That means that we do not yet have even four full bull/bear cycle to examine. That’s enough to gain a good measure of confidence as to how stock investing works. But it is not enough to gain absolute confidence.

We don’t know for sure how stock investing works. When we act like we do, we are bluffing. Often we are bluffing ourselves. Because it is painful to think that we do not know how this stuff works. There’s a lot at stake in the investing advice field. Get it wrong and you can set back people’s lives in very serious ways. People need money to pursue their life goals. Get investing wrong and you rob them not just of dollar bills but of the life successes that those dollar bills would have secured for them.

My view is that the best way to ease our fears is to dig deeper in an attempt to understand better. But it is human nature for us to turn away from projects that scare us. No one knows for certain how stock investing works. Looked at from one perspective, that’s an exciting reality because it presents an opportunity to gain so much ground. But looked at from another, it is scary stuff that offers us an incentive to go into denial re this stuff.

Rob’s bio is here.