Have you ever had a friend who was an alcoholic? If you have, you know how frustrating it can be trying to get one of the humans to focus on what is most important in his life.
Alcoholics are often successful in many realms of life endeavor. They can be fun people who have lots of friends. They can be successful in their careers. They can be good spouses and good parents. But of course the alcoholism threatens all that good stuff. When a friend tries to persuade an alcoholic to examine the problem, he is trying to get the alcoholic to focus on the thing that matters more than anything else.
But the alcoholics does not want to focus on the alcoholism. He wants to evade any questions relating to it. Alcoholics can become extremely skilled at evasion of questions along those lines. So the disease continues undermining their hopes for a happy future. The common story is that it is only when the alcoholic has lost everything and hits bottom that he is willing to take a look at the issue in his life that matters most.
When we develop a strong aversion to looking at something, there is a reason. Often the reason is that it is very important that we look at the thing that we do not want to look at.
I think that that is what is going on in the investing advice field. Shiller “revolutionized” (Shiller’s word) the field with his finding that valuations affect long-term returns. If that is so, then just about everything that we have come to believe about how stock investing works is wrong. If valuations affect long-term returns, stock investing risk is not stable but variable. If risk is variable, then investors seeking to maintain a constant risk profile over time must be sure to engage in market timing. If irrational exuberance is a real thing and stock prices always return to fair-value levels over time, then long-term stock returns must be highly predictable and it is possible for any emotionally balanced investor to beat the market.
If we all were thinking clearly, we would be talking about these possibilities every place and every time the subject of how stock investing works comes up. The reality is that these issues are rarely discussed. I have tried to bring them up on many occasions and the usual response is stunned silence. That’s when I am lucky. On other occasions, the response has been blunt hostility.
We do not want to talk about the far-reaching implications of Shiller’s Nobel-prize-winning research. Do not.
For the same general reasons why alcoholics do not want to talk about their addiction.
Talking about Shiller’s findings would stir up uncomfortable emotions. Shiller’s research was published in 1981. How is it that so many still advocate Buy-and-Hold (price indifferent) strategies to this day? If irrational exuberance is a real thing, it’s hard not to conclude that the crazy stock prices that applied in the days prior to the 2008 economic crisis played a big role in bringing on that crisis (Shiller predicted that crisis in a book that he published in March 2000). If Shiller is right, half of the value of today’s market is rooted in nothing more than emotional fluff, fated to be blown away in the wind when investors eventually come to their senses (as they must inevitably do if the market is to continue to function – the core purpose of all markets is to get prices right).
It is extremely rare to hear a Buy-and-Holder tackle these questions in a calm and informed discussion of their various aspects. I have never heard a Buy-and-Holder be harshly critical of Shiller. They respect his accomplishments. But the standard response of Buy-and-Holders to Shiller is a patronizing attitude. Shiller is patted on the head for being a good enough boy to be awarded a Nobel prize. And then the Buy-and-Holder returns to advocating precisely the same investment strategies that he has been advocating since long before Shiller came on the scene.
We don’t avoid talking about Shiller’s amazing research findings because they don’t matter much. We avoid talking about them because we suspect deep down inside that engaging in conversation about them would reveal that they matter a great deal indeed. Once Shiller’s research is examined in depth, we are going to have to rewrite most of the books in the field. We are going to have to take down the old calculators and replace them with new calculators developed with an appreciation of Shiller’s shocking findings. We are going to have to redo retirement plans.
We are addicted to Buy-and-Hold, much as an alcoholic is addicted to drink, That’s what I believe. Buy-and-Holders treat irrational exuberance gains as if they were real economic-based gains. So at times when stock valuations are as high as they are today they develop an impression that they have accumulated far more wealth over the years than they have truly accumulated. Getting sober is going to be a hard business for all of us.
The good news is that we will feel better about ourselves when we learn how to invest soberly. When we come to appreciate the dangers of irrational exuberance, we will all want to fight it as hard as we can (that’s why God created market timing!) and we will no longer need to be anxious that the relentless promotion of a Get Rich Quick to stock investing is going to someday going to cause our economic system to collapse before us. It gets better. A lot better.
Rob’s bio is here.