What Experts Say About Market-Timing vs. Stay-The-Course

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What Experts Say About Market-Timing vs. Stay-The-Course

Post by Taylor Larimore » Sat Jan 24, 2015 3:04 pm

Advisor Perspectives (8-8-2016): "The question is whether any of these (57) tactical allocation mutual funds have shown any ability to outperform a simple, passively managed 60/40 portfolio. The answer, at least for the last five years, is a resounding “no.”

Alliance Bernstein Research: "In 2005 we interviewed more than 500 financial advisors. 83% of the advisors we polled felt that if investors had stuck to their original asset allocation plan prior to 2000, they could have cut their losses by more than half over the following few years."

Frank Armstrong, author and adviser: "Endless tinkering is unlikely to improve performance, and chasing last period's stellar achiever is a losing strategy."

David Babson, co-author of Investing for a Successful Future: "It must be apparent to intelligent investors--if anyone possessed the ability to do so (market time) he would become a billionaire quickly."

Barron's Guide to Making Investment Decisions: "If we haven't said it enough, we'll say it again: Market timing is dangerous."

Bernard Baruch, famed investor: "Only liars manage to always be "out" during bad times and "in' during good times."

Peter Bernstein, author of 10 finance books: "You have to keep reminding yourself. We don't know what's going to happen with anything, ever."

Wm. Bernstein, author and adviser: "There are two kinds of investors, be they large or small: Those who don't know where the market is headed, and those who don't know that they don't know."

Jack Bogle: "After nearly 50 years in this business, I do not know of anybody who has done market timing successfully and consistently. I don't even know anybody who knows anybody who has done it successfully and consistently."

I started the Boglehead Contest in January 2001. Of 99 Diehard guesses that year, only 11 even guessed the direction of the stock market. Boglehead forecasts were worse in 2008. Only 2 out of 284 Bogleheads guessed how low the S&P 500 Index would plunge.

Bogleheads' Guide to Investing: "No one can predict what the stock market will do or which mutual fund will outperform in the future. This is why we diversify -- so that whatever happens we will not have all our money in losing investments."

Jack Brennan, former Vanguard CEO and author of Straight Talk on Investing: "If you're determined to succeed at investing, make it your first priority to become a buy-and-hold investor."

Warren Buffet: “The only value of stock forecasters is to make fortune-tellers look good."

Ben Carlson CPA, author of A Wealth of Common Sense: "Not only is market timing hard, but you incur fees, taxes and market impact costs, as well."

CDA/Wiesenberger: "Market timing is an ineffective strategy for mutual fund investors."

Andrew Clarke, financial adviser: "A successful investor has a good knowledge base, a well-defined investment plan, and nerves of steel to stick with it."

Jonathan Clements, Wall Street Journal columnist: "Take my word for it. Buy-and-hold is still your best long-run strategy."

Consumer Reports: "Dalbar research has found that both stock and bond investors tend to overreact to events, moving money in and out of mutual funds with breathtakingly bad timing."

Dalbar research (2015) "Mutual fund investors who hold on to their investments have been more successful than those who try to time the market."

Dick Davis, publisher of Dick Davis Digest: "No one can time the market on a consistent basis."

Pat Dorsey, former Morningstar Director of Fund Analysis: "Market-timing is bunk."

David Dreman, author of Contrarian Investment Strategies: "The performance of 185 tactical asset allocation mutual funds was compared with buy-and-hold strategies and equity mutual funds over the years 1985-97. Over this period the S&P 500 Index increased 734%, average equity funds increased 598%, and tactical asset allocation funds increased 384%."

Charles Ellis, author of The Loser's Game: "Market timing is a wicked idea. Don't try it-ever."

Javier Estrada Research: "The odds against successful market timing are just staggering."

Paul Farrell, CBS MarketWatch: "Forget market timing in any form."

Rick Ferri, adviser and co-author of seven books including The Bogleheads' Guide to Retirement Planning: "The best practice for investors is to design a long-term globally diversified asset allocation plan based on present and future financial needs. Then follow that plan religiously, through all markets good and bad."

Forbes: "Benjamin Graham spent much of his career trying to devise a good formula for when to get into--and out of--the stock market. All formulas, he concluded, failed."

Fortune: "Let's say it clearly: No one knows where the market is going-experts or novices, soothsayers or astrologers. That's the simple truth."

Norman Fosback, author, researcher: "Don't sell out of fear or buy out of greed. Just keep making investments, and let the market take its course over the long-term."

John Kenneth Galbraith, economist: "The only function of economic forecasting is to make astrology look respectful."

Elaine Garzarelli, Wall Street's best known strategist until fired by Lehman Brothers: "I've learned that market timing can ruin you."

Good & Hermansen, authors of Index Your Way to Investment Success: "Staying on course may be just as difficult in bull markets as in bear markets."

Carol Gould, author & New York Times columnist: "For most investors the odds favor a buy-and-hold strategy."

Graham/Campbell Study: "From June 1980 through December 1992, 94.5% of 237 market timing investment newsletters had gone of business."

Benjamin Graham, famed investor: "If I have noticed anything over these 60 years on Wall Street, it is that people do not succeed in forecasting what's going to happen to the stock market."

Louis S. Harvey, President of Dalbar Research: “When investors think short-term and try to time the market, they haven’t done very well. They have been leaving a lot of money on the table.”

Mark Hebner, financial author: "Efficient markets have no trends, so any speculation using trading systems or active investment strategies, such as stock, time, manager, or style selection, will only detract from future market returns."

Chuck Hill, Director of Research at FirstCall/Thomson Financial: "At the peak of the bull market in March of 2000 only 0.7% of all recommendations on stocks issued by Wall Street brokerages and investment banks were to sell."

Morgan Housel, Wall Street Journal and Motley Fool columnist: "The odds that you will achieve long-term success by actively trading or timing the market round to zero."

Mark Hulbert, Editor of the Hulbert Financial Digest (1-18-2001): "Among the 160 or so newsletters the HFD monitors, the market timing recommendations of only 10 have beaten the stock market over the last decade on a risk-adjusted basis."

Daniel Kahneman, Nobel Laureate: "After receiving the Nobel Prize, Daniel Kahneman, was asked by a CNBC anchorman what investment tips he had for viewers. His answer: "Buy and hold.""

Michael Leboeuf, author of The Millionaire in You : "Timing the market is for losers. Time IN the market will get you to the winner's circle, and you'll sleep better at night."

Arthur Levitt, former SEC Chairman: "No one is smart enough to time the market's ups and downs."

Jessie Livermore, famous investor: "It never was my thinking that made the big money for me. It always was my sitting."

Peter Lynch, famed mutual fund manager: "Nobody can predict interest rates, the future direction of the economy or the stock market."

Burton Malkiel, author of the classic Random Walk Down Wall Street: "Buying-and-holding a broad-based market index fund is still the only game in town."

John Markese, PhD, President, American Association of Independent Investors: "Nobody, but nobody, has consistently guessed the direction of the bond or stock market over any meaningful length of time."

Paul Merriman, author of Investing for a lifetime: "I don’t think more than perhaps one in 100 investors will be successful using timing."

Morningstar Course 106: "We're not keen on market-timing. It just doesn't work."

Motley Fools: "We've yet to find anyone who can accurately and consistently predict the market's short-term moves."

Nick Murray, author of eleven financial books: "Timing the market is a fool's game, whereas time in the market is your greatest natural advantage."

"Odean and Barber tested over 66,400 investors between 1991 and 1997. Their findings: "The most active traders earned 7% less annually than buy-and-hold investors."

Gerald Perritt, financial author: "Forget trying to time the market and do something productive instead."

Don Phillips, Managing Director of Morningstar: "I can't point to any mutual fund anywhere in the world that's produced a superior long-term record using market timing as its main investment criteria."

Mike Piper, author of The Oblivious Investor: "When market-beating strategies become known they generally stop working."

Jane Bryant Quinn author and syndicated columnist: "The market timer's Hall of Fame is an empty room."

John Rekenthaler, Vice-President of Research for Morningstar: "Market-timers are circus clowns minus the funny suits. Even when they dodge the bear market, they inevitably miss the ensuing bull. Their track record is terrible."

Mary Roland, author of Best Practices for Financial Advisors: "Countless studies have proved that no one is able to time the market effectively."

Louis Rukeyser, famous (deceased) TV host: "In the long run it doesn't matter much whether your timing is great or lousy. What matters is that you stay invested."

Richard Russell, editor of Dow Theory Letters: "There are no geniuses on Wall Street, only geniuses for a while."

Paul Samuelson, Nobel Laureate: "The evidence is overwhelming that a thousand timer's who try to buy when stocks are low, and sell when they are high, is a damnably awful record."

Jim Schmidt, Editor: "For the 10 years that ended 12-31-2000, only one newsletter out of the 112 that Timers Digest follows managed to beat the S&P 500 Benchmark."

Bill Schultheis, adviser and author of The Coffeehouse Investor : "I have learned the hard way that market timing and trying to pick a fund that will out-perform the market are both losing strategies."

Charles Schwab: "I'm a strong advocate of buying and holding."

Fred Schwed Jr., author of 'Where are the Customers' Yachts?: "It turns out that I should have just bought them (securities), and thereafter I should have just sat on them like a fat, stupid peasant. A peasant however, who is rich beyond his limited dreams of avarice."

Chandan Sengupta author of The Only Proven Road to Investment Success: "Any investment method that relies on predicting the future is doomed to fail."

Jeremy Siegel, author of Stocks for the Long Run: "Winning with stocks requires only patience, not foresight."

W. Scott Simon, author of Index Funds: "Investors should look with a jaundiced eye at any market timing system being peddled by its guru-creator."

Paul Singer, hedge fund billionaire: “The important turning points in markets are never identified with precision in advance by ‘experts’ and policymakers."

James Stewart, Smart Money columnist": It's my belief that it's a waste of time to try to time any market decline, or try to pinpoint a market bottom."

Larry Swedroe, author and adviser: "Believing in the ability of market timers is the equivalent of believing astrologers can predict the future."

David Swensen, Manager of Yale Investments: "People should stop chasing performance and just put together a sensible portfolio regardless of the ups and downs of the market."

Andrew Tobias, author of The Only Investment Guide You Will Ever Need: "Don't waste money subscribing to investment letters or expensive services.

Tweddell & Pierce, financial authors: "Trust in time and forget market timing. Allow time to work its compounding magic for you. Let market timing inflict its miseries on someone else."

Eric Tyson, author of Mutual Funds for Dummies: "No one can predict the future."

Wall Street Journal Lifetime Guide to Money: "Few if any investors manage to be consistently successful in timing markets."

John Waggoner, USA Today financial columnist: "If you're considering doing your own market timing, the best advice is this: Don't."

Jason Zweig, author and Wall Street Journal columnist: "If you buy, and then hold a total-stock-market index fund, it is mathematically certain that you will outperform the vast majority of all other investors in the long run."
What Experts Say About Other Important Topics

Best wishes.
Taylor
Last edited by Taylor Larimore on Mon Dec 19, 2016 12:25 pm, edited 13 times in total.
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Re: What Experts Say About Market-Timing

Post by nedsaid » Sun Jan 25, 2015 3:19 pm

While I have made a lot of mistakes as an investor, at least I have had the good sense to not chase performance. To whatever extent I have practiced a mild form of market timing it was based on my perception of valuations. In other words, a form of reverse performance chasing. But whatever modest changes I made in my asset allocation were not based on what I thought the market would do next. What I was attempting to do was to increase the future expected returns of my portfolio.
I suppose delaying rebalancing to let winners run might be another mild form of market timing.

But really what I am describing is really making decisions about asset allocation and also about rebalancing those asset classes and sub-classes that I choose to hold. Also I am influenced by market sentiment. Extreme optimism and extreme pessimism are also things that investors should look for. I think of the shoe shine boys in the late twenties bragging about their large paper profits. At the opposite end of the spectrum one can think of the famous Death of Equities cover of BusinessWeek magazine. I don't know about anyone else, it is hard for me to ignore extremes in market valuations and/or market sentiment.

But at the same time, we should know that periods of extremes can last longer than we think. We can think of these times as rebalancing opportunities and perhaps an opportunity to adjust asset allocations a bit. Even Mr. Bogle was not completely immune, he sold most of his stocks about 1999 because of health concerns and he couldn't help but notice that bonds "were the steal of the century." He has also said in interviews to not get out of stocks, indeed if valuations make investors nervous to perhaps take some off the top but to keep the most of their stocks. So Mr. Bogle didn't "stay the course" 100% but made adjustments due to valuations and personal circumstances.

So there is a bit of nuance here. I wish I could say that I never market timed, I have to a limited degree. I certainly do not advocate being "all in" or "all out" of asset classes you want to be in for the long term. Really all I am saying is don't performance chase and look for opportunity.
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Re: What Experts Say About Market-Timing

Post by ehec » Sun Jan 25, 2015 4:41 pm

I dunno man...
nedsaid wrote: To whatever extent I have practiced a mild form of market timing it was based on my perception of valuations
...
Also I am influenced by market sentiment.
Then from this other thread (viewtopic.php?f=10&t=156450):
nedsaid wrote: If indeed I can squeeze a bit of extra performance from small-value tilting then I will do it.
and,
nedsaid wrote: I will be willing to do what most people won't do, that is buy what is underfollowed and unloved.
...
This is not rocket science. A stock is unloved if there are no analysts following it and no Wall Street firms have buy/sell/hold recommendations. Or it might be a good company with temporary problems that Wall Street analysts are down on.
nedsaid wrote: But really what I am describing is really making decisions about asset allocation and also about rebalancing those asset classes and sub-classes that I choose to hold.
So we got: (1) perception of valuations, (2) market sentiment, (3) buying what is underfollowed and unloved (it isn't rocket science, simply count the number of wall st. analysts following the stock) and (4) finding "good companies" with only temporary problems. It kind of sounds like your strategy is maybe a bit more than rebalancing asset classes and sub-classes.

-----

I should say that although i have only just started posting on this board, i have been a lurker for several years, and nedsaid is one of my all-time favorite posters, so hopefully this will not perceived as some sort of overly aggressive attack and cause any bad-blood to form. Nonetheless, i do sense some dissonance in the statements made in these posts. I often find myself making ambiguous, dissonant statements when my perception of my actions is different from the reality of my actions. I expect nedsaid is experienced enough to know what he's doing. He emphasizes in other posts that his changes are small and at the margin, which is the key point omitted in the above quotes. But maybe there are others out there reading this who find themselves making similar types of statements where the "small changes" condition fails to hold.

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Re: What Experts Say About Market-Timing

Post by LadyGeek » Sun Jan 25, 2015 5:26 pm

This thread is a 1 of 8 birthday presents from Taylor Larimore: What Experts Say [about various investing topics]
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Re: What Experts Say About Market-Timing

Post by nedsaid » Sun Jan 25, 2015 6:14 pm

Ehec,

Thanks for your comments. Yes, I have posted about my thinking aloud, seeing both sides of issues, and plain old fashioned wishy-washiness. You are not the only one who has seen me go back and forth on my posts. Leeraar poked a bit of fun at me for making seemingly contradictory statements. What the heck, I am human and have my foibles too. I operate under the theory that if I post often enough that by golly I will be right about something sooner or later.

So yes, in one thread you might see me extolling the virtues of small-value tilting and then on another thread pointing out the shortcomings of this same approach. I also have tried a lot of things and have commented on them. This contributes to the wishy-washiness.

I see this forum as an opportunity to throw things out there in order to stimulate learning and discussion. Though my points are not always expressed perfectly, hopefully there is a large grain of truth to points that I make. Certainly, I have learned a lot from the Bogleheads and the back and forth with different posters has helped clarify my thinking.

Intellectual honesty is also important. If I am giving people advice on this forum, it is only fair to disclose what I am actually doing with my own money. I should also admit to the mistakes that I have made. It is also fair for me to disclose the reasons behind my thinking. I also have put up my investment performance so that people can see that I have done okay but I certainly am not the second coming of Peter Lynch.

My point in my last post is that none of us are as pure as we would like to believe. I advise against market timing but when I look back through my financial records I have to admit that I performed market timing at least in its milder forms.

It is a bit of a paradox but successful investing is both harder and easier than it appears. Easier in that the key to success is buying good stuff and keeping it. A 3-5 fund portfolio will do just fine. Harder than it looks because we are emotional beings and tend to want to do the wrong thing at the wrong time. This is why we mix higher volatility and higher return asset classes with lower volatility and lower return asset classes. It is a way that our rational and emotional selves can get along and so that we can stick to our investment plan.
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Re: What Experts Say About Market-Timing

Post by livesoft » Sun Jan 25, 2015 6:46 pm

Well, there's market timing, then there's market timing. I like to practice market timing in the context of my buy, hold, and rebalance portfolio.
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Re: What Experts Say About Market-Timing

Post by Random Musings » Sun Jan 25, 2015 8:43 pm

Market Timing - it works until is doesn't.

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Re: What Experts Say About Market-Timing

Post by siamond » Sun Jan 25, 2015 10:36 pm

I'll confess I am tempted by a mild form of market timing, with modest annual changes to my stock/bond top-level allocation based on the current S&P500 valuation and (perceived) equity premium of the day (well, once a year, no more). After reading 10,000 warnings against it, I still find hard to shake the fact that backtesting seems to show a clear advantage of doing so, in terms of improving returns and reducing the std-deviation of my portfolio balance. Oh, and I don't believe markets are efficient. I really don't. We're speaking of human beings here... Shiller has a point, I have little doubt about that.

In a way, I would love to hear a clear argument against such mild form of market timing and be done with my hesitation, but all I've read so far are advices like "don't do it" (like all those quotes - which do not help with my contrarian nature!) or "psychology is the killer" (which I might be able to believe, but why? what is the real trap?). And then, yes, Bogle famously did it once, and Bernstein alludes to something like that in multiple writings (he often calls it over-balancing). In short, I need to be truly convinced in my bones one way or another. And so far, I am on the fence. I gave myself the year 2015 to make a true go/no-go decision... Help welcome.

PS. I read numerous threads on the topic, but this often seems to discuss more aggressive forms of market timing, e.g. completely get out of stock for several years, or act on a daily basis, etc. That, I don't need to be convinced, no way!

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Re: What Experts Say About Market-Timing

Post by nedsaid » Mon Jan 26, 2015 12:55 am

Ehec said "So we got: (1) perception of valuations, (2) market sentiment, (3) buying what is underfollowed and unloved (it isn't rocket science, simply count the number of wall st. analysts following the stock) and (4) finding "good companies" with only temporary problems. It kind of sounds like your strategy is maybe a bit more than rebalancing asset classes and sub-classes."

I wish I could say that I had a very sophisticated strategy that I came with years ago and followed to perfection. The reality is that I learned as I went along and refined my approach over the years. I stumbled into a whole lot of things. I think of how my friend went into the brokerage business and got me started with individual stocks. Bob Brinker taught me the ins and outs of no-load mutual funds and introduced me to index funds. Somehow I stumbled into this forum.

Pretty much keep your eyes and ears open and be willing to learn. All I can say is that I tried a lot of things and my portfolio shows it. Hopefully others can learn from my experiences. If you want my "master plan" I have posted my investment policy statement and Nedsaid's rules of investing. Hint: I stole it all from people I learned from. It is out there somewhere in Boglehead Land.
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Re: What Experts Say About Market-Timing

Post by nedsaid » Mon Jan 26, 2015 12:58 pm

I want to make it crystal clear that I am not advocating market timing. I have practiced it in milder forms discussed above but then again with a focus on market valuations and not market predictions.

Years ago, Money magazine ran an article that showed that stock markets tend to go up. They tend to go up when market price/earnings ratios are low and they tend to go up when market price/earnings ratios are high. As has been pointed out on other threads, market valuations are not a predictor of market movements but they give you a good idea of returns you might rationally expect for the future. In other words, a cheap stock market has higher future expected returns than an expensive market. But remember, a cheap stock market can get cheaper and an expensive stock market can get more expensive. You have to keep your eye on the longer term.

There is a good quote from Warren Buffett that I like a lot. He was asked if the stock market was expensive. He replied, "Yes, but not as expensive as it looks."
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Re: What Experts Say About Market-Timing

Post by ehec » Tue Jan 27, 2015 1:01 am

siamond wrote:Oh, and I don't believe markets are efficient. I really don't. We're speaking of human beings here... Shiller has a point, I have little doubt about that.
To the contrary, in this context, Shiller does /not/ "have a point."

There is a big leap in going from observations made on the behavior of individuals to the collective behavior of a group of individuals. One can't simply make the argument "people are irrational, markets are made up of people, therefore markets are irrational." It very clearly is not true; if it were, there would be an anomalously large number of people able to consistently outperform. It is an empirical fact (not opinion, and not theory) that there are not. At some point one has to move past the verbal, qualitative argument made above, which starts with the individual-investor-psychology observations and ends in the expectation of rampant, continuous market inefficiency, and (1) fill in the middle part with some sort of rigorous theory, and (2) explain the observation that a significant number of consistent outperformers do not exist.

"Behavioral finance" does not do this. It is an exciting amalgamation of individual investor behaviors, fun to read books that are aimed towards the general public, and the proponents are entertaining when they appear on TV. Without any doubt, when this body of work is pointed at individual investors one at a time, it can make predictions about the behaviors and outcomes for the individual. In contrast, when pointed at the markets overall, it seems to me that it boils down to little more than a lot of post-hoc rationalizing of already known phenomena. I don't think it has (correctly) predicted any "anomalies" not already known. Further, absolutely any alleged anomaly or mis-pricing, real or not, can be "explained" with some sort of behaviorism-inspired narrative.

There is a vast and treacherous gap between predicting and/or explaining "individual investor behavior" and predicting and/or explaining the behavior of market prices.

I think the over-infatuation people have with behavioral finance is a result of a collective fascination with psychology. When i was applying to undergraduate institutions in the early 2000's and had the large US News and World Reports US Colleges ranking books, containing statistical data on every university and college in the country, i noticed that the most popular major at every single school was psychology. I literally could not find a single example of a college/university where psychology was not the most popular major. It's all pretty deeply ironic. People desperately want to find explanations and patterns in the random movements of stock market prices; this is a behavioral defect. Behavioral finance gives these people the hope they can develop explanations and predictions, but does not, in fact, allow them to do either, for no real link has yet been made between the individual-level and market-level observations.

More succinctly: behavioral finance is a bubble.

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Re: What Experts Say About Market-Timing

Post by siamond » Tue Jan 27, 2015 9:27 am

ehec, I don't entirely disagree with you. I yawned my way through Shiller's book, and found his argumentation weak at best, and centered on anecdotal data picking and sheer speculation. I also agree that, mathematically, the sum of irrational/random behaviors isn't necessarily irrational/random. Still Shiller /has/ a point. Just look at the 1929 or the 2000 bubble, and one really can't argue for one second that markets are efficient. Hence valuations matter. Which isn't to say that there is a proper way to take advantage of it, nor that behavorial finance is much of a science, but this point remains.

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Bubbles and the Efficient Market Theory

Post by Taylor Larimore » Tue Jan 27, 2015 10:54 am

Just look at the 1929 or the 2000 bubble, and one really can't argue for one second that markets are efficient.
Below is an excerpt from an article at Casey Research
Fama is not just a Nobel laureate. He also co-authored the textbook, The Theory of Finance, with another Nobel winner, Merton H. Miller. He won the 2005 Deutsche Bank Prize in Financial Economics as well as the 2008 Morgan Stanley-American Finance Association Award. He is seriously a big deal in the economics world.

So if Fama has it right, investors should just throw in the towel, shove their money into index funds, and blissfully wait until they need the money. Before you do that, read what Fama had to say about the 2008 financial crisis.

The New Yorker's John Cassidy asked Fama how he thought the efficient-market hypothesis had held up during the recent financial crisis. The new Nobel laureate responded:
"I think it did quite well in this episode. Prices started to decline in advance of when people recognized that it was a recession and then continued to decline. There was nothing unusual about that. That was exactly what you would expect if markets were efficient."
When Cassidy mentioned the credit bubble that led to the housing bubble and ultimate bust, the famed professor said:
"I don't even know what that means. People who get credit have to get it from somewhere. Does a credit bubble mean that people save too much during that period? I don't know what a credit bubble means. I don't even know what a bubble means. These words have become popular. I don't think they have any meaning.
"
http://www.caseyresearch.com/articles/n ... dont-exist

Best wishes.
Taylor
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Re: What Experts Say About Market-Timing

Post by nedsaid » Tue Jan 27, 2015 12:22 pm

I respect Dr. Fama and his contributions to the world of finance but I find his comments about bubbles to be unbelievable. I would be less shocked if he stated the world was flat.

Bubbles are real and are caused by investor euphoria. People get carried away with excessive optimism as almost anything seems possible. And yes, the easy availability of credit can feed this. We saw that in the real estate bubble of the 2000's. Assets get inflated in price beyond any rational measure of valuations. Greed run amok.

The real estate bubble was real. When individuals buy expensive homes that they can't make the payments on, that is a bubble. When banks know they are making mortgage loans to people who can't make the payments, that is a bubble. When banks don't care about making bad loans because they know they can package them and sell them to investors, that is a bubble. When investors don't care they are buying bad loans because a bond rating agency rates them as AAA, that is a bubble. When lending standards become in some cases non-existent, that is a bubble. Rational thinking went completely out the window, judgment was suspended, and people looked the other way on unethical behavior.

The US Stock Market in the late 1990's was a classic bubble. Anything associated with the internet was pushed to insane prices including companies with no earnings and in a few cases no sales!! We were in a new paradigm, the traditional methods of valuation no longer applied. Cash was trash, value was passé, and the sky was the limit. Ordinary people with no interest in invested wanted to become day traders. Yes that was a bubble.

It is proof that even distinguished professors like Dr. Fama can say really silly things. These are about the silliest statements I have ever read. Heck, it shows the guy is human.
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Re: What Experts Say About Market-Timing

Post by nedsaid » Tue Jan 27, 2015 12:39 pm

What I will say in Dr. Fama's defense is that bubbles are not perceived by the public until after the fact. That is a true statement.

The financial crisis of 2008-2009 took a lot of people by surprise including yours truly. People, including distinguished experts did not realize the extent of the subprime lending. But I did have a sinking feeling that something was wrong. A co-worker mentioned that she wanted to start investing in real estate, I gently suggested the timing might not be the best. I just figured prices would stagnate for a long time but I certainly did not expect a crash. Indeed, as everything was crashing there were experts out there saying that the subprime debt was relatively small compared to the economy and essentially that this was a tempest in a teapot. A whole lot of people wound up with egg all over their faces.

I do taxes on the side and live in a fairly expensive real estate market. Not as high as parts of California but fairly expensive. I saw people in certain occupations buying expensive homes. I know what different occupations make and I couldn't understand how certain folks could make the payments. I shook my head but didn't think much more about it.

Ditto for the 2000-2002 bear market. I did trim my stocks by 15% before the crash but it wasn't because of knowledge that the market would crash. I was getting a bit alarmed that a lot of people were getting interested in day trading. I just had a sinking feeling that something was not quite right. But I had no predictive powers.

But to deny that bubbles exist simply defies common sense. Clearly valuations in both cases got out of whack and there clearly was a market euphoria. I believe the markets to be fairly efficient but this does not negate the power of human emotion. The example of Dr. Fama making silly comments is the perfect illustration of taking a good idea to an extreme.
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Re: What Experts Say About Market-Timing

Post by ehec » Sat Jan 31, 2015 11:53 am

nedsaid wrote: The example of Dr. Fama making silly comments is the perfect illustration of taking a good idea to an extreme.
You will note that Fama never said "bubbles don't exist." This was something the author of the article put as the title, but I can't find a quote to that effect in the text. What we do find is this:
...I don't even know what a bubble means. These words have become popular. I don't think they have any meaning.
The problem with "bubbles" is not that they do or do not exist. The problem with the term "bubble" is, as Fama says in the quote above, it has no meaning. For "bubble" to have meaning you have to be able to say how to measure it. I need a test I can apply to the stock market (or bond market or whatever) that tells me if some particular period is or was a bubble. Above, you propose that a bubble is when valuations get out of whack and where there is market euphoria. You also note that bubbles are not detected until after the fact (for the purpose of giving meaning to the term "bubble" it is perfectly fine if your definition is retrospective and not predictive).
nedsaid wrote: Clearly valuations in both cases got out of whack and there clearly was a market euphoria.
This looks like a great start to me. We've got two conditions:

Condition 1: Valuations out of whack
How do we tell if valuations are or were out of whack? I suppose we look at the past price action (or P/E action). If a big decline follows a big run up then we can conclude that valuations were out of whack. This happens all the time, though. Was there a crude oil bubble? Was there a Russian Ruble bubble? A Silver bubble? A gold bubble? A Japanese Yen bubble? I think most people would agree on the "internet bubble" and the "1980's japan bubble," but we would probably find widespread disagreement on the others. And of course, my list above only spans the last five years or so. Valuation appears to be a necessary, but not a sufficient condition for a bubble. What is the threshold? Fortunately, we have...

Condition 2: Market euphoria
Well, now, this is going to be pretty handwaving, right? I think the "valuations" condition looks pretty handwaving when one sits down and tries to spell out how to use it as a condition as I do above, but market euphoria? I don't have the faintest idea about how to measure market euphoria, and I don't think anybody else does either. I could be completely wrong though. Do the main behavioralist academics have some sort of standard set of measures that they use to quantify this? I am aware there are investor sentiment surveys but they seem to oscillate wildly from optimism to pessimism on the scale of weeks during both bull and bear markets.

You cite the housing bubble as market euphoria. I can certainly see where you are coming from with this. I remember all the house flipping reality shows on primetime, for example. In retrospect this strikes me as qualifying as "euphoria." The trouble with this example, though, is that the "euphoria" is in the wrong place. The House-buyers you repeatedly cite were certainly euphoric, but the "bubble" was due to the very low price at which these buyers were extended credit. It was a "credit bubble" that brought down the financial system; /lenders/ thought they could print money lending to anyone. You'd have to have given a bunch of examples of euphoric savers selling their stocks and going all in on mortgage bonds, retirees opening up margin accounts to leverage up their bond portfolios, or borrowing money to invest in the commercial paper of financial institutions. None of this happened. Instead a bunch of regular people were euphoric because they could get loans at low interest rates. Not quite the same. To the extent there was "euphoria" it seems to me it was concentrated among a fairly small set of individuals (numbering, say, in the thousands) at the banks, rating agencies and frontline lending companies that were really raking in the cash speculating on these loans. It is among this relatively small number of people where the behaviorialist story (if indeed there is a behaviorialist story) will have to lie. Despite the very entertaining story the media has woven over what happened at these banks during the credit bubble years, it really seems to me that it has to be deliberately framed as an internet-bubble-like-bubble in order for people to see it that way. Most of the narrative focuses on finically reckless house-buyers to establish the bubble-like nature of the events, then by sleight of hand translates this to the banks.

So in far fewer words, /maybe/ the housing bubble qualifies, but most of the discussion of the investor-sentiment angle is i think at least a little bit off base, because the investors who blew up the system (the people actually extending the credit and raking in the profits) weren't the house buyers, but instead a bunch of behind-the-scenes types in obscure departments at financial institutions.

Panning out now to the other very recent examples I gave (Russian Ruble bubble, a silver bubble, a gold bubble, a Japanese Yen bubble), how much euphoria, and among what number of people does it need to be distributed to get a bubble? Why aren't these other examples bubbles also (or maybe you would call them bubbles)?

So, I think this is Fama's point. If a couple of stock-traders want to shoot the breeze at the bar after work, or if charlie brown and some bacterium want to argue with eachother on the internet, it is perfectly fine to use a colloquial, informal definition of "bubble," but such definitions do not accompany major advances in thought. To make fundamental advances we first need to know what it is we are talking about. We can then proceed to collect data and make models. I would posit that "bubble" in the way that it is being used here and is used elsewhere really does have no meaning. This is a microcosm of the criticism of behavioral finance that I made above. It seems to this naive observer that the field has not really led to models with any explanatory power, and I would propose that one problem is that it does not define its terms in a useful way.

So I'd love to see someone attempt a more rigorous definition of "bubble." Maybe there is one already and someone can call me an idiot and provide a link to it.

Onward:
siamond wrote: one really can't argue for one second that markets are efficient.
The problem with making this statement is, once again, you have to say what you mean by "efficient market." If by "efficient market" you mean a market that never "goes up a bunch then crashes" I suppose you are right. Since "goes up a bunch then crashes" is what "bubble" seems to mean (see above) then we could say efficient markets are those which never have bubbles, with the provisio that bubble means what I have just said it means and nothing more. I don't want to expand this already too-long post into an evaluation of all the things different people mean when they say "efficient market," so I will end here. But by all means if you have the energy and the inclination, respond with what "efficient market" means to you. It could be that, for your definition, you and I agree.

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Re: What Experts Say About Market-Timing

Post by nedsaid » Sun Feb 01, 2015 11:29 am

One of the things that causes bubbles are what I call "market religion", that is people get to believe something so strongly that they just suspend any critical thought processes. If this belief gets held by enough people over a long enough period of time this will be a cause of bubbles.

Here are a few examples, the "Nifty Fifty" stocks in the 1960's. There was a belief that all you had to buy quality growth stocks and hold them. The problem is that valuations matter and if at some point valuations get so high then even quality companies will be a poor investment. Price to earnings ratios got to be over 50 for some of these stocks.

Another version of this occurred in the 1990's. You wanted to own the "ruler" stocks where you could trace 15% earnings growth on a graph with a ruler. GE and Coca-Cola were two famous examples. They were solid companies but much of the growth was financial engineering that masked that the underlying growth rates of the actual businesses were probably 8-10% but not 15%. The Coke CEO used to get on the phone and bully analysts who dared question the growth rates. Coke also maintained what seemed to be high growth rates by spinning off their slower growing businesses like their bottling operations. I used to joke that Coke would spin off everything but their logo and argue that their brand value was growing at 15%. GE did well timed asset sales to help earnings growth look steady and also did spin-offs, But the GE and Coke religion was so strong that investors could not or would not see what was obvious. GE got up to a 45 market P/E as I recall.

The same thing with high-tech and the internet. Internet stocks zoomed often where there were no earnings and in a few cases no sales. Belief in the transformational power of the internet got to be so great that people stopped realizing that there were underlying businesses represented by the stocks. In many cases, when you got beyond the hype and looked at the actual businesses, there was no there there. Sizzle but no steak.

No, the housing bubble wasn't just caused by a few obscure people in back rooms. The belief in real estate price appreciation was so great that even if new homeowners could barely make payments (or not make them at all) that price appreciation would bail them out. Indeed there was a strong belief that if people didn't buy a house that prices would rise so high that they would be locked out of the housing market forever. So it was get in while you can. There was a lot of dishonesty out there at all levels of the real estate market and that included buyers who exercised magical thinking that the unaffordable was affordable. Nobody held guns to home buyers heads and made them sign these ridiculous mortgages.

Market bubbles are in many respects "group think" on steroids. Almost nobody disputes the new orthodoxy that we are in a new paradigm and that valuations don't matter. Affordability doesn't matter either because there is always a bigger fool out there who will take off your hands what you bought at insane prices. The few out there still grounded by reality get derided as out of touch and out of date or at the very least as old grumps who want to steal everybody's fun.

So no this isn't hand waving. I am not just making things up out of thin air. I actually have lived through a lot of this. Keep your eyes and ears open and apply a little critical thinking and that will go a long way.
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Re: What Experts Say About Market-Timing

Post by nedsaid » Sun Feb 01, 2015 12:38 pm

The argument seems to be made that if I can't precisely define something or precisely measure it then it doesn't exist. Well no, bubbles exist though there is not a precise definition or measurement. It is a case of "I know what it is when I see it."

I don't agree that a run-up in price followed by a steep sell-off are always bubbles. This effect happening with a particular commodity or currency probably doesn't affect the average Joe or Jane that much. When I think of a bubble, I think of something that affects the whole economy and has an effect on our everyday lives. Not something that creates heartburn among traders in a commodity trading pit somewhere. Easy credit is often the culprit of bubbles with pervasive effects. I can think of the 1929 Stock Market Crash and the 2008-2009 financial crisis. I am not sure that argument holds for the internet and high tech bubble of the late 1990's.

I think this is your whole problem with behavioral finance. There are a lot of concepts that seem solid but in fact are a bit muddy when you look at them up close. What seems precise is not precise. But human behavior is like that, people do not behave according to my expectations. No matter how much I learn about human nature and human behavior, I still get taken by surprise from time to time. It isn't that psychology is bunk, it is that it has its limitations. Part of that is that we don't know everything, we only know some things. And even some of what we know is not based on as much evidence as we think.

It was like that silly programmed learning that we suffered through in grade school. BF Skinner had a few good ideas but took them out to extremes. Sixth grade kids were a whole lot smarter than Skinner's pigeons and sometimes I wonder if the pigeons were smarter than Skinner. The result were lessons that were meant to induce "conditioned learning" in students but only resulted in lessons that were ridiculously easy for sixth graders. The sixth graders were smarter than the authors who wrote up those ridiculous lessons. A few good ideas taken to extreme led to essentially worthless education materials.

A lot of ideas are like that. Most of the time they work pretty well but when taken to extreme look pretty ridiculous. I agree with the idea of efficient markets. To the individual investor for all intents and purposes, markets are efficient. But certainly in times of extreme market optimism or pessimism, one can see that asset pricing was not efficient during those times. I would argue that human nature and behavior causes these extremes. Just because we can't precisely define or measure these effects doesn't mean they don't exist.
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Re: What Experts Say About Market-Timing

Post by Trader Joe » Sun Feb 01, 2015 1:30 pm

ehec wrote:I dunno man...
nedsaid wrote: To whatever extent I have practiced a mild form of market timing it was based on my perception of valuations
...
Also I am influenced by market sentiment.
Then from this other thread (viewtopic.php?f=10&t=156450):
nedsaid wrote: If indeed I can squeeze a bit of extra performance from small-value tilting then I will do it.
and,
nedsaid wrote: I will be willing to do what most people won't do, that is buy what is underfollowed and unloved.
...
This is not rocket science. A stock is unloved if there are no analysts following it and no Wall Street firms have buy/sell/hold recommendations. Or it might be a good company with temporary problems that Wall Street analysts are down on.
nedsaid wrote: But really what I am describing is really making decisions about asset allocation and also about rebalancing those asset classes and sub-classes that I choose to hold.
So we got: (1) perception of valuations, (2) market sentiment, (3) buying what is underfollowed and unloved (it isn't rocket science, simply count the number of wall st. analysts following the stock) and (4) finding "good companies" with only temporary problems. It kind of sounds like your strategy is maybe a bit more than rebalancing asset classes and sub-classes.

-----

I should say that although i have only just started posting on this board, i have been a lurker for several years, and nedsaid is one of my all-time favorite posters, so hopefully this will not perceived as some sort of overly aggressive attack and cause any bad-blood to form. Nonetheless, i do sense some dissonance in the statements made in these posts. I often find myself making ambiguous, dissonant statements when my perception of my actions is different from the reality of my actions. I expect nedsaid is experienced enough to know what he's doing. He emphasizes in other posts that his changes are small and at the margin, which is the key point omitted in the above quotes. But maybe there are others out there reading this who find themselves making similar types of statements where the "small changes" condition fails to hold.
Very insightful post. Thank you.

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Re: What Experts Say About Market-Timing

Post by Beliavsky » Mon Feb 02, 2015 8:40 am

If market timing is always bad, that means you should invest new saving in the stock market even if the price earnings ratio were 100 (and not due to temporarily low earnings coming out of a recession). Valuation based market timers help to keep the market in line by selling when it is too high and buying when it is too low. You don't go into a store and buy without considering what you are getting for your money. Investing should be done in the same way.

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Re: What Experts Say About Market-Timing

Post by nedsaid » Wed Feb 04, 2015 12:47 am

Beliavsky wrote:If market timing is always bad, that means you should invest new saving in the stock market even if the price earnings ratio were 100 (and not due to temporarily low earnings coming out of a recession). Valuation based market timers help to keep the market in line by selling when it is too high and buying when it is too low. You don't go into a store and buy without considering what you are getting for your money. Investing should be done in the same way.
+1.

This is why I say that valuations matter. Investors need to pay attention to the extremes of both market valuation and market sentiment. Markets can get excessively optimistic or excessively pessimistic. This is a good post.
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Re: What Experts Say About Market-Timing

Post by ehec » Thu Feb 05, 2015 1:06 am

I think all your examples of bubbles (internet, housing, ruler stocks, nifty fifty, 1929) are captured by a variation on the definition I proposed several posts above ("prices go up a bunch and then go down"): "valuations go up a bunch and then do down." (I thought I had added "valuations" parenthetically as an alternative to "prices" when I previously wrote that but now I can't find it). If our definition of "bubble" were "valuations go up a bunch and then go down," we'd get all the official nedsaid-bubbles, but (!) we'd also get things like silver 2011. The trouble with the long list of "bubbles" that this definition would identify is that some of them don't seem to have induced any sort of widespread mania among the public, and we'd certainly pull out some that don't involve any groupthink on steroids or market religion. In the discussion above, your definition of bubble requires these elements.

In the end what you have done - perhaps not explicitly or intentionally - is this: You have 1) screened historical stock market data for valuations-go-up-then-go-down instances 2) Done a secondary screen for the following conditions: Effects average joe or jane, is group think on steroids, investor euphoria. To the list of events that results from this screen you attach the label "bubble." That's totally cool. As a definition of "bubble" there is no problem with it whatsoever. Further, I think your definition worked out here is what a large majority of regular investors would also put forward, and I also think it is more or less the definition the professional behaviorists would put forward.

The problem arises when we attempt to /understand/ and attach explanations to these events (one will need to have some sort of understanding to engage in market timing). Your definition has been carefully tweaked so that it cherry picks, ex-post, examples of stock market crashes that seem to contain examples of the standard set of behavioral-financeisms, but does not pick out either the enormous set of stock market crashes which do not contain the standard set of behavioral-financeisms, and definitely not the even more enormous set of stock market non-crashes that /do/ contain the standard set of behavorial-financeisms. Obviously, if you restrict your analysis to this very circumscribed set, you are going to conclude that individual investor behavior has significant effects on stock market prices/valuation. You will probably also conclude that it's a good idea to pay close attention to investor sentiment and do a bit of market timing on the side. Although this seems like it should work, it is ultimately a poor strategy. I believe that the dichotomy between the intuitive feeling that valuation/sentiment-based market timing "should" work and the fact that in practice it does not, is that in the end, using human behavior to explain "bubbles," where "bubbles" are defined as you have above, is tautological.

Q: Why do we have bubbles?
A: Humans are irrational.
Q: What is a bubble?
A: A bubble is where humans behave irrationally

With a setup like this, one is going to have a difficult time getting any explanatory power out of the behavioral finance cauldron. Not surprising, then, that market timing based on investor sentiment is not a successful strategy. Hence my seemingly unproductive and pedantic focus on the definition of terms. If, as part of your attempt to take advantage of investor behavioral biases, you were to sit down one weekend for a few hours and really work out a solid, operational definition of bubble (and perhaps also some of these other words like euphoria or group-think), you would then be able to test your theory that irrational investor behaviors (defined bottom-up in terms of presumably observable parameters like groupthink and euphoria) coincide with spikes and crashes in stock market valuations. I expect that if you did this you'd find yourself with such a blatant example of data mining that it would be too painful to look at, --or-- that it simply wouldn't work as a strategy to time the market. To make it work you would have to unjustifiably exclude too many observations. It isn't all negative though! In making the vague idea of a bubble explicit, it might become clearer in what ways the naive application of the (very important) ideas of behavioral finance to market behavior is limited, and how such application might be improved.
nedsaid wrote: The argument seems to be made that if I can't precisely define something or precisely measure it then it doesn't exist. Well no, bubbles exist though there is not a precise definition or measurement. It is a case of "I know what it is when I see it.
Without getting bogged down into a non-colloquial highly philosophical definition of "exist," yes, the ultimate argument I am making is that you do need to be able to define and measure the things you want to talk about. Basically every single field of human endeavor starts with imprecise ("hand waving") ideas with non-operational definitions. Advancements are made, very often, when ideas are sharpened by better definitions. Consider, for example. the axioms of naive set theory (and Russell's paradox), or in physics, the hand-waving idea of universal time (eventually we got relativity), or in finance, when Markowitz gave meaning to the word "risk." (I can make the list way longer, but I think it takes us off topic; I don't think "definitions of terms?! we don't need no stinkin' definitions of terms!" Is an argument you really want to make anyhow).

I think that if behavioral finance can explain stock market movements that there is an apparent if not a real contradiction between the results of behavioral finance and the idea of efficient markets. But the contradiction only arises if behavioral finance can indeed explain said movements. I think the way forward is not to use a bunch of ambiguous words to hedge our ideas, or to layer on condition after condition after condition onto which instances of market action are "explained" by investor sentiment/euphoria/groupthink. I think that when the data - all the data, not simply a handful of carefully selected examples - are examined, that the case for psychological investor faults as a useful explanatory variable for financial market behavior is an extremely difficult one to make. If I am wrong, however, and behavioral finance can be usefully applied to interpret market-level behavior, that this would be of enormous significance. The trouble for Eugene Fama and the researchers who spend their time actually putting these ideas to the test is that the ad-hocd "behavioral story" behind any perceived (real or imaginary) mispricing is simple, intuitive, and entertaining. Everybody laps it up. It's _so_ _obvious_, right? Hence, when Fama points out, as he does in the quote above, that proponents of these theories are not even able to specify to what limited set of situations their theories are supposed to apply, we get:
nedsaid wrote: It is proof that even distinguished professors like Dr. Fama can say really silly things. These are about the silliest statements I have ever read.
...
nedsaid wrote: But to deny that bubbles exist simply defies common sense. .... The example of Dr. Fama making silly comments is the perfect illustration of taking a good idea to an extreme.
It requires bravery to abandon the warm and fuzzy behavioral view. When you give it up, you lose the ability to immediately "explain" any sort of aberration in the markets as "irrationality," or "group think," or any of the other terms that are thrown around. You will have to step off the ledge from a world you can justify (so long as you don't think very hard about the terms you are using) into one which you cannot. But this is how progress gets made.

To conclude,
nedsaid wrote: I think this is your whole problem with behavioral finance. There are a lot of concepts that seem solid but in fact are a bit muddy when you look at them up close. What seems precise is not precise. But human behavior is like that, people do not behave according to my expectations. No matter how much I learn about human nature and human behavior, I still get taken by surprise from time to time. It isn't that psychology is bunk, it is that it has its limitations. Part of that is that we don't know everything, we only know some things. And even some of what we know is not based on as much evidence as we think.
This is not my problem with behavioral finance. My problem with behavioral finance is its misapplication as an explanatory framework for stock market behavior. This does not mean I think that behavioral finance is bogus, or that psychology is bunk. To the contrary, I think both these fields have been a tremendous benefit to investors, insofar as they have helped individual investors (and helped financial advisers to help individual investors) become more introspective and to better understand and control their emotions. We are all much better off because of them. We are all worse off, however, when we are sold the idea that behavioral finance can be used to explain or predict extremes in valuations ("bubbles"), thereby opening the door for using, for example, investor sentiment measures as a market timing indicator. It has given a veneer of credibility to this incredulous activity. I believe it has done so not through rigorous scholarship, but rather through amusing anecdotes, and by attaching plausible sounding narratives to a big heaping spoonful of data-mined instances. People are much more receptive to this than, say, a bunch of wooden passages in some dusty book from the 1960's like "the theory of finance." This is a psychological flaw and its manifestation here is both amusing and unfortunate.

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Re: What Experts Say About Market-Timing

Post by ehec » Thu Feb 05, 2015 1:21 am

Beliavsky wrote: Valuation based market timers help to keep the market in line by selling when it is too high and buying when it is too low.
That's true. The question each individual faces is whether to become a valuation-based market timer, or whether to leave this work to others (effectively to "freeride" on the efforts of all the stock-pickers whose actions keep the markets efficient). You propose two conditions for market timing: Don't buy stocks when...
1) P/E ratios >= 100
2) Not coming out of recession

Note that if P/E ratios were > 100 but we were not coming out of a recession, and then valuations subsequently suffered a catastrophic collapse, nedsaid would not call this a bubble, because there would also have to be widespread mania amongst average-joe types. (I mention this here not to hit nedsaid over the head, but because the bulk of the thread is about the definition and identification of bubbles, and a definition such as points 1-2 above, amusingly, seems like it wouldn't work). On the other hand, I personally think your comment would work quite well as a jumping off point for an operational definition of "bubble." We would have to quibble about the P/E cutoff and we'd have to specify how many stocks need to be thus valued (maybe by adding their market caps and comparing to the overall market or something), but it is pretty close in spirit to what I put forward in the discussion above. The problem, again, to connect with the rest of this thread, is that with this definition we'd pull out all kinds of events that don't exhibit those really obvious sorts of investor-behavioral elements we hear offered all the time as "explanations" for bubbles and large price moves.

Without that warm, fuzzy blanket of hand-waving (and "obvious") explanations for these events, we would find ourselves in possession of an observation ("bubbles") that we simply are not able to explain in light of the /fact/ that things like market timing don't work. The contradiction would be really uncomfortable intellectually and we would have to either live with it or hit the books and try to come up with an explanation; it could very well turn into a lifetime of work.

I don't know what the ultimate explanation for valuation-extremes would be, but I bet it would be much more complex and interesting than a simple assertion that humans are irrational, followed by a laundry list of behaviors.

More on the topic of your post (as I don't think you are trying to argue about how to define or explain bubbles):
If you are some sort of passive indexer like the vast majority of people on this forum, you almost certainly own stocks with P/E ratios over 100, stocks with no earnings, and stocks with losses (negative P/E ratios). In a great many cases it is very unclear if those low-to-nonexistent earnings are temporary or permanent, recession or no recession. Nevertheless, I think the data would show that cutting these stocks out of your index would probably not improve your returns all that much, and would quite possibly lower them. (To knock down what is maybe a strawman, it isn't clear that in doing so you would obtain any sort of "stealth" tilt to value, because where "value" is defined as low book/market and not low P/E, many value stocks will have little in the way of earnings).

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Re: What Experts Say About Market-Timing

Post by nedsaid » Thu Feb 05, 2015 11:26 am

Ehec, you have raised good points here. The reality is that there is no "theory of everything" in finance that neatly explains everything. Investing is messy and imperfect. To me it involves avoiding the big mistakes and tilting the odds in your favor as much as you can. There is just no way of doing all of this perfectly.

For example, I have noticed that the long term trend of the US Stock Market is up. I have further noticed that the market tends to go up two years for every year that it is down. So I have concluded that the odds favor the optimist and that the odds favor the bull. In any given year, the odds are 2:1 that the stock market will be up. That is a bet I am willing to take. The trouble is that we don't know how much the market will go up when it is up and how much it will go down when it goes down. The market could go down more in one down year than up in the two up years!! But so far the trend is up and a long term hold on the US Stock Market seems like a good bet.

But do I know that the US Market will always trend up? The reality is that I don't. To a degree, what I am doing is an exercise in faith. Not blind faith, but faith. I look to the past to give me an indication of what might happen in the future. 2008-2009 could have been financial Armageddon. The markets and the economy did not have to recover. But past history indicated that a rebound was very likely and I trusted that in some form that history if it didn't repeat would at least rhyme. It really is a strong belief in the advancement of human progress and civilization and thus the economy. If the economy keeps growing over time chances are that at some point the market will follow.

What odds would you take? A Market P/E of 8 or so after the 1973-74 Bear Market or a Market P/E of 32 in early 2000? Are your odds for outsized returns better when the public is interested in day trading or when you see the "Death of Equities" cover of BusinessWeek magazine?

I think of tools in a toolbox. You want more than just a hammer in a toolbox. It might be wise to have screwdrivers, pliers, rulers, tape measures, sprocket sets, etc. No one tool is going to fix everything. Market valuations don't tell the whole story, we all know that markets with high valuations can go higher and that markets with low valuations can go lower. Market history suggests what might happen in the future but we know that history never repeats itself exactly. We know that market sentiment indicators aren't perfect, market euphoria or market pessimism can last for long periods of time. That is you might be right but too early. Risk measurements are useful but we know that they change over time. We know that correlations between asset classes change over time. If you draw efficient frontiers, over time the "sweet spot" of risk and return changes. Behavioral finance is very useful but there are things it doesn't explain. It all is at least a bit fuzzy.

I can tilt the odds in my favor best I can based on what I know. My knowledge and perception are limited. I do the best I can. I wish I could say that I have all this figured out but I don't. Mostly what I do is try to avoid the really big mistakes.
A fool and his money are good for business.

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Taylor Larimore
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"The Investment Lesson From 2014? The Same as Always"

Post by Taylor Larimore » Fri Feb 06, 2015 1:41 pm

Bogleheads:

I came across a recent Wall Street Journal article by Boglehead author and advisor, Rick Ferri. Rick tells us the lessons learned in 2014 with this conclusion:
"My prediction for 2015 is that the same lesson will be learned again. Don’t try to time markets. Pick an asset allocation that’s right for you and stick with it through thick and thin."
The Investment Lesson From 2014? The Same as Always

Best wishes.
Taylor
"Simplicity is the master key to financial success." -- Jack Bogle

ShiftF5
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Re: What Experts Say About Market-Timing

Post by ShiftF5 » Fri Feb 06, 2015 8:30 pm

Thank You Taylor for that wonderful collection of gems.

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DonCamillo
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Re: What Experts Say About Market-Timing

Post by DonCamillo » Fri Feb 06, 2015 9:28 pm

nedsaid wrote:
Beliavsky wrote:If market timing is always bad, that means you should invest new saving in the stock market even if the price earnings ratio were 100 (and not due to temporarily low earnings coming out of a recession). Valuation based market timers help to keep the market in line by selling when it is too high and buying when it is too low. You don't go into a store and buy without considering what you are getting for your money. Investing should be done in the same way.
+1.

This is why I say that valuations matter. Investors need to pay attention to the extremes of both market valuation and market sentiment. Markets can get excessively optimistic or excessively pessimistic. This is a good post.
I agree. I am near retirement, but enjoyed maxing out my retirement savings investing in equities during 2000 to 2003 and 2008 to 2009. If we have another opportunity to invest like that before I retire, I have already decided that I am willing to delay retirement by a year or two. That is clearly market timing, but I am already ambivalent about retiring. I have little to gain or lose by retiring, so it does not take much to tilt the balance toward or away from retirement.
Les vieillards aiment à donner de bons préceptes, pour se consoler de n'être plus en état de donner de mauvais exemples. | (François, duc de La Rochefoucauld, maxim 93)

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Re: What Experts Say About Market-Timing

Post by NoRoboGuy » Wed Apr 22, 2015 8:15 pm

I see a bit of dissonance on these boards, and it tends to boil down to differences between:
(1) short term market timing (most agree: bad), and
(2) long term strategic adjustment, based on valuation (some say good, others say bad).

What if one has an allocation like 50/50, but is willing and able to take additional risk of up to 65/35, provided "valuations are attractive?" Is that market timing, or a strategic decisional framework? In both scenarios, there is always market exposure. It is not trying to jump in and out of the market.
nedsaid wrote: What odds would you take? A Market P/E of 8 or so after the 1973-74 Bear Market or a Market P/E of 32 in early 2000? Are your odds for outsized returns better when the public is interested in day trading or when you see the "Death of Equities" cover of BusinessWeek magazine?
This is a great way to illustrate there are in fact market extremes that seem to fly in the face of efficient market pricing.

It does not matter whether a valuation-based assessment ultimately is "correct." If you say it is not possible to know there is a bubble until after the fact, it does not change the fact there are objective measures of extreme over-valuation and under-valuation, and that translates to a real change in risk. Regardless how long extreme conditions are in place, why is it a bad thing to take extreme conditions into account when writing an IPS?

For example, if the common behavior error is selling when markets are making extreme lows, but the IPS says to instead make a modest increase in equity exposure, how is that a bad thing?
There is no free lunch.

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Maynard F. Speer
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Re: What Experts Say About Market-Timing

Post by Maynard F. Speer » Wed Apr 22, 2015 11:15 pm

"The test of a first-rate intelligence is the ability to hold two opposed ideas in mind at the same time and still retain the ability to function." - F. Scott Fitzgerald

And just to bring balance to the universe, a few from one of the world's greatest (and certainly richest) investors:

"The generally accepted view is that markets are always right -- that is, market prices tend to discount future developments accurately even when it is unclear what those developments are. I start with the opposite view. I believe the market prices are always wrong in the sense that they present a biased view of the future." - George Soros

"Stock market bubbles don't grow out of thin air. They have a solid basis in reality, but reality as distorted by a misconception."

"Markets are constantly in a state of uncertainty and flux, and money is made by discounting the obvious and betting on the unexpected."

"Taking this view, it is possible to see financial markets as a laboratory for testing hypotheses, albeit not strictly scientific ones. The truth is, successful investing is a kind of alchemy."

"Every bubble consists of a trend that can be observed in the real world and a misconception relating to that trend. The two elements interact with each other in a reflexive manner."

"I contend that financial markets never reflect the underlying reality accurately; they always distort it in some way or another..."

“Far more money is made buying high and selling at even higher prices” - Richard Driehaus
"Economics is a method rather than a doctrine, an apparatus of the mind, a technique of thinking, which helps its possessor to draw correct conclusions." - John Maynard Keynes

Waba
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Re: What Experts Say About Market-Timing

Post by Waba » Wed Apr 22, 2015 11:31 pm

Some good analysis recap at Alpha Architect http://blog.alphaarchitect.com/2015/04/ ... c-of-myth/, from the summary:
Simply put, a tactical asset allocation model that incorporates market valuations typically suggests that we sell when prices are high relative to some historical benchmark, and we buy when prices are cheap relative to some historical benchmark. Buy low, sell high–an intuitive concept. We also know that over long horizons valuations are directly related to realized returns, however, just because we know valuations relate to long-term returns doesn’t necessarily imply we can beat a buy-and-hold strategy by timing the market based on valuations. So how should we proceed?

As evidence-based decision-makers we decided to test the various stories told in the market when it comes to tactical timing using valuations:

* We’ve already tested the “extreme valuation” hypothesis–sell when the market hits 90-percentile+ valuation–doesn’t work.
* Here we test the “relative valuation” hypothesis–sell when market is above average valuation; buy when below average–doesn’t seem to work.
* Gestaltu tests “absolute value” hypothesis–buy when valuation yield minus realized inflation is high; sell when it is low–this seems to work, but we need to do our own testing.

Bottom line: We are still on the fence when it comes to tactical asset allocation using valuations.

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Maynard F. Speer
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Re: What Experts Say About Market-Timing

Post by Maynard F. Speer » Thu Apr 23, 2015 12:44 am

Waba wrote:Some good analysis recap at Alpha Architect http://blog.alphaarchitect.com/2015/04/ ... c-of-myth/, from the summary:
Simply put, a tactical asset allocation model that incorporates market valuations typically suggests that we sell when prices are high relative to some historical benchmark, and we buy when prices are cheap relative to some historical benchmark. Buy low, sell high–an intuitive concept. We also know that over long horizons valuations are directly related to realized returns, however, just because we know valuations relate to long-term returns doesn’t necessarily imply we can beat a buy-and-hold strategy by timing the market based on valuations. So how should we proceed?

As evidence-based decision-makers we decided to test the various stories told in the market when it comes to tactical timing using valuations:

* We’ve already tested the “extreme valuation” hypothesis–sell when the market hits 90-percentile+ valuation–doesn’t work.
* Here we test the “relative valuation” hypothesis–sell when market is above average valuation; buy when below average–doesn’t seem to work.
* Gestaltu tests “absolute value” hypothesis–buy when valuation yield minus realized inflation is high; sell when it is low–this seems to work, but we need to do our own testing.

Bottom line: We are still on the fence when it comes to tactical asset allocation using valuations.
Their Moving Average system seems to work quite well - but I've always believed you can never time a single market with valuation ... By its very nature it relies on markets over and undershooting for indeterminately long periods (although their Gestaltu tests do sound interesting .. It's a new one on me .. I'd be more surprised than most)

But you can replace an expensive region or sector with a cheaper one, or you can simply avoid buying anything expensive, and otherwise happily buy-and-hold knowing you've got the long-term odds (somewhat) in your favour
"Economics is a method rather than a doctrine, an apparatus of the mind, a technique of thinking, which helps its possessor to draw correct conclusions." - John Maynard Keynes

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Re: What Experts Say About Market-Timing

Post by Dandy » Thu Apr 23, 2015 6:33 am

Trying to time the market is, in general, a bad idea especially if fear and greed are in the mix. I'm not sure the practices or recommendations of all the experts quoted would always meet the strictest definition of not being market timers. e.g. buy and hold is often mentioned but often doesn't mean buy and hold forever. Many times it means don't trade frequently.

Mr. Bogle engages in "tactical" allocations but is generally against market timing and he did say that when markets are extremely overvalued you should consider a major shift in your allocation. Such an event might occur once in a lifetime. He also advocates stay the course. So you could use quotes from Mr. Bogle to support don't market time or do It sometimes.

The issue is a bit more nuanced then a list of quotes or bumper sticker sayings. I understand that the investment media is awash in commentary that is very much market timing oriented so sometimes we need to counter balance that. Listing quotes we like from experts we like doesn't do it for me. But I'm sure it helps others from straying into the dark side.

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Re: What Experts Say About Market-Timing

Post by MNS CA » Wed Jan 10, 2018 12:39 am

nedsaid wrote:
Sun Feb 01, 2015 11:29 am
Indeed there was a strong belief that if people didn't buy a house that prices would rise so high that they would be locked out of the housing market forever. So it was get in while you can. There was a lot of dishonesty out there at all levels of the real estate market and that included buyers who exercised magical thinking that the unaffordable was affordable.
This sounds eerily like the real estate market in Coastal California (SF, Bay area, Los Angeles) today.

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