“Market Always Goes Up” defense without past performance

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gmaynardkrebs
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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

financeguy88 wrote: Sun Mar 03, 2019 9:09 am In addition, the US market is special in that we require the stock market to appreciate to fund actual liabilities of retirees and pensioners, unlike other countries. Thus our economic system doesn't functionally work without a rising stock market. Thus if you are betting against the stock market going up you are betting on a systemic breakdown.
Very insightful post! However, I think "systemic breakdown" is way over-stated. Without delving at all into a political discussion, all that would be required is a significant "shift in the political winds," which would hardly come as a Black Swan to anyone who's been reading the newspapers lately.
KlangFool
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Re: “Market Always Goes Up” defense without past performance

Post by KlangFool »

Folks,

A) To all those people that claimed the US stock market always goes up is not a safe assumption, the basic answer would be buying the whole world instead. Stop using the US stock market as the strawman.

B) To folks that believe the stock market is not efficient and overvalued, plus Warren Buffett is correct. Buy BRK.A or BRK.B instead. Pick your favorite active/value management strategy. I put 40% of my portfolio into the Wellington fund as my hedge against market inefficiency.

C) If you believe that the deficit spending will lead to hyper-inflation, buy some gold. Plus do not pay off your 30-years fixed rate mortgage.

I know nothing. I diversify so that I am hedged against all possible scenarios: inflation, deflation, hyperinflation and so on. I do not need to be right about what the future will be.

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Rus In Urbe
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Re: “Market Always Goes Up” defense without past performance

Post by Rus In Urbe »

As the OP wrote:
2. But the market crashed over the course of several days when we were told interest rates were going to go up. And then it began climbing again when Powell said nevermind. Is it reasonable to say, “blind buy Total Stocks after the chop settles following a major market shaker?”
:oops:
If you thought that THAT was a market "crash" and a "major market shaker," your lack of tolerance for risk indicates that you should never, ever invest in the stock market. It would drive you totally crazy!

Instead, as others have said, you should stick to CDs and Money Market Funds. Perhaps some under the mattress would be helpful too for a sense of security. Gold in a lockbox too. Some find that comforting, and I can't judge another's risk tolerance---it's a personal thing.

For myself, I can only say that we are multi-millionaires thanks to the BH precepts, particularly STC and LBYM. But I realize how hard it is to overcome the primal urges of fear (of loss) and greed (for more, quickly)---- in order to join the Boglehead crew.

Your other option is to follow what Taylor said upthread. Read that and absorb its lessons. Good luck.
I'd like to live as a poor man with lots of money. ~Pablo Picasso
Enganerd
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Re: “Market Always Goes Up” defense without past performance

Post by Enganerd »

financeguy88 wrote: Sun Mar 03, 2019 9:09 am
blacksmith4 wrote: Thu Feb 28, 2019 8:42 pm Virtually all of the advice here seems to be based on past performance. “You should have just done Sp500 instead of tried to time the market, since that did better.” Looking at the Nikkei 255 for instance, it seems evident to me that markets do not in fact always go up. And so I’m struggling to understand how the Bogleheads/Efficient Markets philosophy is in fact any better than “bet on the 6 horse since it won the last race.”

Said differently, this site would have a lot less traffic if US US stocks didn’t go up so much since 2009.

Can anyone point me to some reading that justifies blind investing in us equities that does NOT rely primarily on “look at how much money you would have made” type arguments? Worst offenders to me are articles like “if you invested prior to each crash, you’d still be up!” since this is true only due to extremely recent market developments. Is there some actual reason that US equities are so wonderful and that we should just ignore all other fundamental/economic indicators when making investment decisions?
You are asking the right question. A big piece of the US success is that the US has the world's reserve currency, and thus can borrow and fund huge debt expansion with abnormally low interest rates. We also have the world's largest economy, one of the more stable political systems in the world with checks and balances, despite its flaws, and the most powerful military in the world.

In addition, the US market is special in that we require the stock market to appreciate to fund actual liabilities of retirees and pensioners, unlike other countries. Thus our economic system doesn't functionally work without a rising stock market. Thus if you are betting against the stock market going up you are betting on a systemic breakdown.

The Federal Reserve is essentially mandated with targeting asset price inflation, even if this entails currency debasement through QE. The natural outcome of this is deficit spending, inflation and currency debasement. The question is what is the benchmark upon which to measure this debasement, and what will be the rate of debasement. One could argue this debasement occurs relative to the price of assets, including real estate, stocks, and other items. There are elements of this that resemble a ponzi scheme, but it is the system in which we live. The recent attention that Modern Monetary Theory (MMT) is getting by mainstream politicians and economists is in effect a tacit acknowledgement of this scheme.

Our ability as a country to borrow cheaply, as well as these other advantages, help to create a self-fulfilling flywheel effect. Reserve currencies recently have had an average lifespan of about 100 years. Prior to the US dollar gaining prominence after WWI, it was the British sterling, and prior to that it was the Spanish dollar, going all the way back to the Roman empire. Due to something referred to as Triffin's dilemma, reserve currency countries are doomed to run current account deficits, which ultimately leads to their undoing.

The US dollar still comprises the majority of global central bank reserves as well as global transactions. The US does not appear in danger of losing this status in the near term, due to natural inertia from being a monopoly, and lack of great viable alternatives, but it appears to be on the downswing of being a reserve currency due to very high deficits, and political actions. For example using the dollar status as a billystick to sanction countries and control global flow of funds is encouraging countries like Russia, Turkey, Iran and others to look for dollar alternatives. The other options are the remnimbi and Euro, though central banks have been stockpiling gold at a record pace as well recently.

I know this is a bit of a rambling answer, but I suggest reading "Exorbitant Privilege" by Barry Eichengreen for more insight into the history of reserve currencies.
Really great post! Explains many of the concepts I have been mulling over for months. But I really have no idea how to incorporate those facts with my investment philosophy. I am still relatively young so human capital is more important than my portfolio. Confidence in returns helps the first priority of investing behavior: live below your means and invest everything beyond emergency fund. But looking at the current system as a house of cards type ponzi scheme makes it hard to keep plowing high percentage of my salary into the market and hoping that it doesn't collapse in a manner that causes a permanent loss of purchasing power.

But I have skepticism about gold or cryptocurrencies or similar hedges. And it seems unlikely the system could be shaken up so bad that equities owners are burned, without major societal collapse. And once you get to the point of preparing for stuff like that, I feel like you are no longer be productive in considering risk management and just entertaining fantasies.
KlangFool
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Re: “Market Always Goes Up” defense without past performance

Post by KlangFool »

Enganerd wrote: Sun Mar 03, 2019 1:18 pm
But I have skepticism about gold or cryptocurrencies or similar hedges. And it seems unlikely the system could be shaken up so bad that equities owners are burned, without major societal collapse. And once you get to the point of preparing for stuff like that, I feel like you are no longer be productive in considering risk management and just entertaining fantasies.
Enganerd,

When you reach a certain point of wealth, you can afford a certain level of insurance/luxury for those circumstances. Regardless of how likely it is.

I keep $100 in my wallet and at least $1,000 at home. I have a few thousands in gold jewelry too. I keep 1 year of the emergency fund. I am prepared for 5 years of unemployment/market downturn/recession. I can afford this without impacting my timeline towards FI significantly. So, why not?

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financeguy88
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Re: “Market Always Goes Up” defense without past performance

Post by financeguy88 »

gmaynardkrebs wrote: Sun Mar 03, 2019 10:18 am
financeguy88 wrote: Sun Mar 03, 2019 9:09 am In addition, the US market is special in that we require the stock market to appreciate to fund actual liabilities of retirees and pensioners, unlike other countries. Thus our economic system doesn't functionally work without a rising stock market. Thus if you are betting against the stock market going up you are betting on a systemic breakdown.
Very insightful post! However, I think "systemic breakdown" is way over-stated. Without delving at all into a political discussion, all that would be required is a significant "shift in the political winds," which would hardly come as a Black Swan to anyone who's been reading the newspapers lately.
Thank you for reading! I don't think that systemic breakdown is overstating things. Mathematically, the US government and its inhabitants in aggregate aren't able to fund liabilities without asset appreciation. If liabilities go unfunded, that leads to a downward spiral of debt being written off, declines in consumer and business spending, etc. The only thing that can break the cycle is some factor to drive up asset prices. The mechanism to prevent this downward spiral scenario in recent history has been government deficit spending, and the Federal Reserve reducing interest rates, or printing money to create inflation or threat of future inflation. This creates a lack of viable riskless alternatives to earn a return as well as the threat of currency debasement, which helps to drive investors into assets, expand multiples on earnings of assets and keep the flywheel going.

Recently we've seen earnings growth slowing or declining for many for businesses and assets. Thus to see the asset price appreciation, we need to rely on earnings multiple expansion for close to 100%, or over 100% of the appreciation. In addition our ability to tolerate an asset price drawdown has been going down over time, as financial assets held by individuals an institutions are at a record level vs. the size of the overall US economy (ie. Financial Asset to GDP ratio). Understanding this point will help understand why a decline of 5% to 10% YTD decline in stock market last year required an unusual intervention by Treasury and a sharp policy shift by the Federal Reserve, despite the fact that the "real economy" is doing so well.

I am simply highlighting that this is the way this system works currently, and helps to explain why asset prices have to essentially rise over time, unless there is some sort of breaking point to this system described above. I don't have a strong view of what that might look like, but as highlighted above, I believe it is strongly linked to if this rate of debasement is able to be controlled, as well as the future of the dollar as a reserve currency.
klaus14
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Re: “Market Always Goes Up” defense without past performance

Post by klaus14 »

I also believe most of the assets are overvalued and there is no easy way out. This is the only game in town and all you can do is to tilt your asset allocation. I have very low confidence that US market beta will deliver good returns in the next decade so i chose to increase my risk to increase my long term expected return:
- I have equal portions of US and exUS stocks. This overweights exUS.
- Within international, i overweight emerging. For better geographical diversity, i have half EM stocks half EM bonds.
- Stock allocations use multifactor funds to expose myself to other risk/return sources than beta.
- Most of my US bond allocation is short term to reduce interest rate risk.
- I hold gold as a portfolio insurance
- Even though i believe they are overvalued, i think quality US companies are financially in good shape, so i hold investment grade corp bonds.
- I believe in the case of stock market crash, it's highly likely that FED will reduce rates towards zero, so i hold some treasury futures coupled to my US stock holdings.

For the sake of completeness, here is the portfolio this approach generated for my age:
VFMF 16% (US Multifactor)
NTSX 16% (US Large + Treasury Futures)
ISCF 14% (ExUS Dev Small Multifactor)
VGK 4% (Europe Stocks, this corrects Europe underweighting of ISCF)
FNDE 6% (EM Value)
EMGF 6% (EM Multifactor)
VEGBX 6% (EM USD Bonds)
LEMB 6% (EM Local Bonds)
GLDM 10% (Gold)
VSCSX 16% (US ST Corp Bonds)

Backtesting shows this portfolio behaves similarly and has a slightly better sharpe/sortino than global 60/40 recently but obviously it doesn't mean anything other than a sanity check.
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blacksmith4
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Re: “Market Always Goes Up” defense without past performance

Post by blacksmith4 »

I really enjoyed everyone’s input here and learned a lot. Thank you very much.
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gmaynardkrebs
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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

klaus14 wrote: Sun Mar 03, 2019 5:49 pm I also believe most of the assets are overvalued and there is no easy way out. This is the only game in town and all you can do is to tilt your asset allocation. I have very low confidence that US market beta will deliver good returns in the next decade so i chose to increase my risk to increase my long term expected return:
I assume you realize that to the extent you have increased your term long expected return by this method, you have increased your chances of an extreme outcome, good and bad, to an even greater extent. An extreme outcome to the upside might give you a vacation house near you future grandchildren or a really nice Mercedes coupe; that's nice! An extreme outcome to the downside might have you having eating Laddie-Boy; that's not so nice! Moreover, and here's the point: the Laddie-Boy result is much more "bad" than the other is nice -- at least to me. However, if you are very wealthy, and don't have to worry about bad tail results, your strategy makes sense.
klaus14
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Re: “Market Always Goes Up” defense without past performance

Post by klaus14 »

gmaynardkrebs wrote: Sun Mar 03, 2019 7:17 pm
klaus14 wrote: Sun Mar 03, 2019 5:49 pm I also believe most of the assets are overvalued and there is no easy way out. This is the only game in town and all you can do is to tilt your asset allocation. I have very low confidence that US market beta will deliver good returns in the next decade so i chose to increase my risk to increase my long term expected return:
I assume you realize that to the extent you have increased your term long expected return by this method, you have increased your chances of an extreme outcome, good and bad, to an even greater extent. An extreme outcome to the upside might give you a vacation house near you future grandchildren or a really nice Mercedes coupe; that's nice! An extreme outcome to the downside might have you having eating Laddie-Boy; that's not so nice! Moreover, and here's the point: the Laddie-Boy result is much more "bad" than the other is nice -- at least to me. However, if you are very wealthy, and don't have to worry about bad tail results, your strategy makes sense.
Yes. I am aware. I earn well. Close to retirement i intend to go more moderate.

I believe last 10 years US stock/bond market history creates a fake sense of security. At least, i think, i am exposing myself to a real risk/return. Best case for my approach would be, US market goes sideways, no crash but muted returns, but EM/Euro/Value recovers. I think this is highly likely given current valuations and fed policy.
DB2
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Re: “Market Always Goes Up” defense without past performance

Post by DB2 »

klaus14 wrote: Sun Mar 03, 2019 5:49 pm
- Even though i believe they are overvalued, i think quality US companies are financially in good shape, so i hold investment grade corp bonds.
https://www.cnbc.com/2018/11/21/theres- ... onomy.html
Independent George
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Re: “Market Always Goes Up” defense without past performance

Post by Independent George »

gmaynardkrebs wrote: Fri Mar 01, 2019 7:30 pmSo there is no level of valuation that would lead you change your position? If the PE's were 50? 100? 200? If TIPS were paying 4% real interest? 6% real interest?
This seems to be self-correcting.

If PEs were to climb that high, by definition doesn't that mean stock prices have appreciated to the point where you would want to rebalance to bonds anyway?

If TIPS were paying 4-6% over inflation, wouldn't that mean nobody is buying them at auction (and prices therefore have declined)? That seems to imply that either US debt is no longer viewed as safe, or there is a seemingly better alternative out there. Either way, since treasuries account for 66% of Total Bond Market, sticking to your AA and rebalancing once again seems to capture whatever opportunity you're going for.
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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

Independent George wrote: Sun Mar 03, 2019 10:58 pm
gmaynardkrebs wrote: Fri Mar 01, 2019 7:30 pmSo there is no level of valuation that would lead you change your position? If the PE's were 50? 100? 200? If TIPS were paying 4% real interest? 6% real interest?
This seems to be self-correcting.

If PEs were to climb that high, by definition doesn't that mean stock prices have appreciated to the point where you would want to rebalance to bonds anyway?

If TIPS were paying 4-6% over inflation, wouldn't that mean nobody is buying them at auction (and prices therefore have declined)? That seems to imply that either US debt is no longer viewed as safe, or there is a seemingly better alternative out there. Either way, since treasuries account for 66% of Total Bond Market, sticking to your AA and rebalancing once again seems to capture whatever opportunity you're going for.
I don't think it's self correcting. TIPS are a "safe asset" in the hypothetical, so you are changing the hypothetical by positing that they were in fact unsafe. But as far as that, TIPS have approached 4% real a few times in the past as safe assets. TIPS (Treasury Inflation Protected Securities) are a small component of the Treasuries in Total Bond Mrkt. I would not expect ever to see 6% real -- too good to be true.

Re balancing is a good idea, yes. However, it won't help if you are just beginning to accumulate.
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Re: “Market Always Goes Up” defense without past performance

Post by Independent George »

gmaynardkrebs wrote: Mon Mar 04, 2019 1:46 amI don't think it's self correcting. TIPS are a "safe asset" in the hypothetical, so you are changing the hypothetical by positing that they were in fact unsafe. But as far as that, TIPS have approached 4% real a few times in the past as safe assets. TIPS (Treasury Inflation Protected Securities) are a small component of the Treasuries in Total Bond Mrkt. I would not expect ever to see 6% real -- too good to be true.

Re balancing is a good idea, yes. However, it won't help if you are just beginning to accumulate.
What I mean is that because TIPS are sold at auction, their rates are effectively determined by the exact same economic factors which govern equity prices. Money flowing in and out of TIPS depends in a large part on how the market feels about equities and other bonds during the same period. Looking at the historical 10 and 20 year TIPS rates, they were at their highest in 2009. A pivot to TIPS back then would have locked in some very good guaranteed returns, but also missing out on the bull market of the last 10 years. The question is really whether it's better to move to TIPS based on its yield, or to hold on to them as a fixed portion of your AA; I think the latter already sufficiently captures those changes in yields.

https://fred.stlouisfed.org/graph/?id=D ... I20,DFII30,

RE: your second point, the flip side to just starting to accumulate is that a huge drawdown also doesn't mean as much, especially compared to the risks of missing our on gains by staying out of equities. I'm actually a good example of that - I didn't invest significantly until I paid off my student loans in 2005. When the crash hit, most of my portfolio had been purchased at the inflated prices of the previous three years. It hurt terribly at the time, but even at 90/10, the pain dissipated pretty quickly, and it effectively meant that I benefited tremendously from the bull market that followed.
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gmaynardkrebs
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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

Independent George wrote: Mon Mar 04, 2019 10:58 am
gmaynardkrebs wrote: Mon Mar 04, 2019 1:46 amI don't think it's self correcting. TIPS are a "safe asset" in the hypothetical, so you are changing the hypothetical by positing that they were in fact unsafe. But as far as that, TIPS have approached 4% real a few times in the past as safe assets. TIPS (Treasury Inflation Protected Securities) are a small component of the Treasuries in Total Bond Mrkt. I would not expect ever to see 6% real -- too good to be true.

Re balancing is a good idea, yes. However, it won't help if you are just beginning to accumulate.
What I mean is that because TIPS are sold at auction, their rates are effectively determined by the exact same economic factors which govern equity prices. Money flowing in and out of TIPS depends in a large part on how the market feels about equities and other bonds during the same period. Looking at the historical 10 and 20 year TIPS rates, they were at their highest in 2009. A pivot to TIPS back then would have locked in some very good guaranteed returns, but also missing out on the bull market of the last 10 years. The question is really whether it's better to move to TIPS based on its yield, or to hold on to them as a fixed portion of your AA; I think the latter already sufficiently captures those changes in yields.

https://fred.stlouisfed.org/graph/?id=D ... I20,DFII30,

RE: your second point, the flip side to just starting to accumulate is that a huge drawdown also doesn't mean as much, especially compared to the risks of missing our on gains by staying out of equities. I'm actually a good example of that - I didn't invest significantly until I paid off my student loans in 2005. When the crash hit, most of my portfolio had been purchased at the inflated prices of the previous three years. It hurt terribly at the time, but even at 90/10, the pain dissipated pretty quickly, and it effectively meant that I benefited tremendously from the bull market that followed.
Back to the original hypothetical, TIPS vs stocks, my point is that an investor should not disregard real yields. TIPS, with real yield of 4% are getting close to the long term expected real yield of stocks, and TIPS at 6% would probably be way above. Why would someone not prefer TIPS at 6% real? (Unless they have the gambling instinct, which most BHers do not.) Note, I was responding to someone who says no matter what, I'm sticking with stocks. At today's TIPS yields, stocks certainly seem more attractive. No argument there, unless preservation of principal is the paramount concern. Not sure if this answers your question, but it's what I had in mind.
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Re: “Market Always Goes Up” defense without past performance

Post by Independent George »

gmaynardkrebs wrote: Mon Mar 04, 2019 11:25 amBack to the original hypothetical, TIPS vs stocks, my point is that an investor should not disregard real yields. TIPS, with real yield of 4% are getting close to the long term expected real yield of stocks, and TIPS at 6% would probably be way above. Why would someone not prefer TIPS at 6% real? (Unless they have the gambling instinct, which most BHers do not.) Note, I was responding to someone who says no matter what, I'm sticking with stocks. At today's TIPS yields, stocks certainly seem more attractive. No argument there, unless preservation of principal is the paramount concern. Not sure if this answers your question, but it's what I had in mind.
That does make sense, and I agree with you.
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Re: “Market Always Goes Up” defense without past performance

Post by JackoC »

financeguy88 wrote: Sun Mar 03, 2019 2:35 pm I don't think that systemic breakdown is overstating things. Mathematically, the US government and its inhabitants in aggregate aren't able to fund liabilities without asset appreciation. If liabilities go unfunded, that leads to a downward spiral of debt being written off, declines in consumer and business spending, etc. The only thing that can break the cycle is some factor to drive up asset prices. The mechanism to prevent this downward spiral scenario in recent history has been government deficit spending, and the Federal Reserve reducing interest rates, or printing money to create inflation or threat of future inflation. This creates a lack of viable riskless alternatives to earn a return as well as the threat of currency debasement, which helps to drive investors into assets, expand multiples on earnings of assets and keep the flywheel going.
If 'the system breaking down' means socio-political chaos your formulation is questionable IMO. Japan has seen a long period of very poor returns in domestic risk assets since the 1980's, and as that period dragged on, govt bond yields also settling at basically zero return. There isn't social chaos in Japan, it's still a very nice place. The real economy has not even performed *that* badly relative to the US: GDP per capita in PPP terms in Japan was around 79% of the US level in 1988, around 71% in 2018.

But, a whole generation of savers in domestic risk assets have made next to nothing, basically zero real return on the Nikkei 1988-2018*. And the enormous increase in borrowing and the pool of govt bonds, trading at zero or negative real yields, hasn't stopped that. Whether that expansion of debt to GDP can go on forever is a question. However even if it ends in some cataclysm or over-the-rainbow happy ending tomorrow that doesn't mean it hasn't, let alone couldn't have, happened for 30 yrs. :happy

That doesn't mean that *will* happen in the US, but IMO it's a weak argument to say it couldn't because 'Japan is different'. Japan *is* different in important ways than the US (not all of them in the US's favor), but your argument is made quite generally, so I think is significantly refuted by another rich country with basically no real returns on domestic assets for a generation, and no hint of general social or economic breakdown.

That's aside from the more basic question your argument raises: even assuming prolonged zero/negative returns caused 'systemic breakdown', why would that make them impossible?

*see Nikkei total return calculator: 30 yrs August 1988 to August 2018 almost exactly zero real Yen denominated return including reinvested dividends.
https://dqydj.com/nikkei-return-calcula ... nvestment/
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gmaynardkrebs
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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

JackoC wrote: Mon Mar 04, 2019 3:48 pm
financeguy88 wrote: Sun Mar 03, 2019 2:35 pm I don't think that systemic breakdown is overstating things. Mathematically, the US government and its inhabitants in aggregate aren't able to fund liabilities without asset appreciation. If liabilities go unfunded, that leads to a downward spiral of debt being written off, declines in consumer and business spending, etc. The only thing that can break the cycle is some factor to drive up asset prices. The mechanism to prevent this downward spiral scenario in recent history has been government deficit spending, and the Federal Reserve reducing interest rates, or printing money to create inflation or threat of future inflation. This creates a lack of viable riskless alternatives to earn a return as well as the threat of currency debasement, which helps to drive investors into assets, expand multiples on earnings of assets and keep the flywheel going.
If 'the system breaking down' means socio-political chaos your formulation is questionable IMO. Japan has seen a long period of very poor returns in domestic risk assets since the 1980's, and as that period dragged on, govt bond yields also settling at basically zero return. There isn't social chaos in Japan, it's still a very nice place. The real economy has not even performed *that* badly relative to the US: GDP per capita in PPP terms in Japan was around 79% of the US level in 1988, around 71% in 2018.

But, a whole generation of savers in domestic risk assets have made next to nothing, basically zero real return on the Nikkei 1988-2018*. And the enormous increase in borrowing and the pool of govt bonds, trading at zero or negative real yields, hasn't stopped that. Whether that expansion of debt to GDP can go on forever is a question. However even if it ends in some cataclysm or over-the-rainbow happy ending tomorrow that doesn't mean it hasn't, let alone couldn't have, happened for 30 yrs. :happy

That doesn't mean that *will* happen in the US, but IMO it's a weak argument to say it couldn't because 'Japan is different'. Japan *is* different in important ways than the US (not all of them in the US's favor), but your argument is made quite generally, so I think is significantly refuted by another rich country with basically no real returns on domestic assets for a generation, and no hint of general social or economic breakdown.

That's aside from the more basic question your argument raises: even assuming prolonged zero/negative returns caused 'systemic breakdown', why would that make them impossible?

*see Nikkei total return calculator: 30 yrs August 1988 to August 2018 almost exactly zero real Yen denominated return including reinvested dividends.
https://dqydj.com/nikkei-return-calcula ... nvestment/
The fact is 84 percent of the stock in the United States is owned by the top 10 percent of households by net wealth. The bottom 80 percent of households own only about 7 percent of stock. BTW, that includes indirect ownership through mutual funds, IRAs, 401Ks, and other retirement accounts. The upper 10% are not known for being socially disruptive radicals. And anybody who thinks the bottom 80% are going storm the Bastille because a bunch of rich people's 401K balances aren't as high they used to be needs to get out more.
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Re: “Market Always Goes Up” defense without past performance

Post by HomerJ »

blacksmith4 wrote: Fri Mar 01, 2019 4:46 pmOk. Suppose someone has previously decided they want to be 100% in stocks for retirement. They are 30. Their 401k contribution is about to be made. “X” bad market event/signal comes out. Should they hold the money in cash for a month in hopes of stabilization?
There are ALWAYS bad market events/signals. Go look at the "Stocks are in free-fall thread". It was started in 2011. Every couple of months, some new poster would comment on that thread stating that "Greek debt crisis/oil shock/government shutdown/Brexit/etc." is an OBVIOUS sign that things are going to go bad, so why not wait a month (or year) in hopes of stabilization.

EVERY couple of months, someone would post this. And they'd be wrong.

Nothing is obvious. Nobody knows enough to predict anything.

Here's the thing. Please read this carefully.

The fairly good historical stock market average return INCLUDES all the crashes. Read that again.

In the past, you didn't have to avoid the "bad-market events" or move in and out based on "signals" to become wealthy investing over the long-term in the stock market.

Will this continue? I think so. Human labor and capital is constantly being turned into profits. It's not a closed system. All of us working are inputting into the system, making it more valuable year after year.

Sure, markets may be overvalued. But you still don't know what will happen next.

In 1996, markets were overvalued. It was OBVIOUS. The Chairman of the Fed said so. Shiller, Nobel Prize winner, who invented CAPE, said so.

And yet, stocks more than doubled from 1996 until crashing 40% in 2000. They never dropped as low as they were in 1996. The long-term return from 1996, even after going through two crashes, is still very close to the historical long-term average.

1996, where stocks were OBVIOUSLY overvalued, was a good time to buy. S&P 500 has never been cheaper.
A Goldman Sachs associate provided a variety of detailed explanations, but then offered a caveat, “If I’m being dead-### honest, though, nobody knows what’s really going on.”
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Re: “Market Always Goes Up” defense without past performance

Post by H-Town »

financeguy88 wrote: Sun Mar 03, 2019 2:35 pm
gmaynardkrebs wrote: Sun Mar 03, 2019 10:18 am
financeguy88 wrote: Sun Mar 03, 2019 9:09 am In addition, the US market is special in that we require the stock market to appreciate to fund actual liabilities of retirees and pensioners, unlike other countries. Thus our economic system doesn't functionally work without a rising stock market. Thus if you are betting against the stock market going up you are betting on a systemic breakdown.
Very insightful post! However, I think "systemic breakdown" is way over-stated. Without delving at all into a political discussion, all that would be required is a significant "shift in the political winds," which would hardly come as a Black Swan to anyone who's been reading the newspapers lately.
Thank you for reading! I don't think that systemic breakdown is overstating things. Mathematically, the US government and its inhabitants in aggregate aren't able to fund liabilities without asset appreciation. If liabilities go unfunded, that leads to a downward spiral of debt being written off, declines in consumer and business spending, etc. The only thing that can break the cycle is some factor to drive up asset prices. The mechanism to prevent this downward spiral scenario in recent history has been government deficit spending, and the Federal Reserve reducing interest rates, or printing money to create inflation or threat of future inflation. This creates a lack of viable riskless alternatives to earn a return as well as the threat of currency debasement, which helps to drive investors into assets, expand multiples on earnings of assets and keep the flywheel going.

Recently we've seen earnings growth slowing or declining for many for businesses and assets. Thus to see the asset price appreciation, we need to rely on earnings multiple expansion for close to 100%, or over 100% of the appreciation. In addition our ability to tolerate an asset price drawdown has been going down over time, as financial assets held by individuals an institutions are at a record level vs. the size of the overall US economy (ie. Financial Asset to GDP ratio). Understanding this point will help understand why a decline of 5% to 10% YTD decline in stock market last year required an unusual intervention by Treasury and a sharp policy shift by the Federal Reserve, despite the fact that the "real economy" is doing so well.

I am simply highlighting that this is the way this system works currently, and helps to explain why asset prices have to essentially rise over time, unless there is some sort of breaking point to this system described above. I don't have a strong view of what that might look like, but as highlighted above, I believe it is strongly linked to if this rate of debasement is able to be controlled, as well as the future of the dollar as a reserve currency.
An important factor that keeps the U.S. not crumbling from the biggest pile of debt in the whole world is its military power and strategic alliance. Pick another country and give them that pile of debt and see what happens.

It just points out that things can change in a hurry. I hope it does not change during my life time.
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Re: “Market Always Goes Up” defense without past performance

Post by KlangFool »

HomerJ wrote: Mon Mar 04, 2019 4:33 pm
blacksmith4 wrote: Fri Mar 01, 2019 4:46 pmOk. Suppose someone has previously decided they want to be 100% in stocks for retirement. They are 30. Their 401k contribution is about to be made. “X” bad market event/signal comes out. Should they hold the money in cash for a month in hopes of stabilization?
There are ALWAYS bad market events/signals. Go look at the "Stocks are in free-fall thread". It was started in 2011. Every couple of months, some new poster would comment on that thread stating that "Greek debt crisis/oil shock/government shutdown/Brexit/etc." is an OBVIOUS sign that things are going to go bad, so why not wait a month (or year) in hopes of stabilization.

EVERY couple of months, someone would post this. And they'd be wrong.

Nothing is obvious. Nobody knows enough to predict anything.

Here's the thing. Please read this carefully.

The fairly good historical stock market average return INCLUDES all the crashes. Read that again.

In the past, you didn't have to avoid the "bad-market events" or move in and out based on "signals" to become wealthy investing over the long-term in the stock market.

Will this continue? I think so. Human labor and capital is constantly being turned into profits. It's not a closed system. All of us working are inputting into the system, making it more valuable year after year.

Sure, markets may be overvalued. But you still don't know what will happen next.

In 1996, markets were overvalued. It was OBVIOUS. The Chairman of the Fed said so. Shiller, Nobel Prize winner, who invented CAPE, said so.

And yet, stocks more than doubled from 1996 until crashing 40% in 2000. They never dropped as low as they were in 1996. The long-term return from 1996, even after going through two crashes, is still very close to the historical long-term average.

1996, where stocks were OBVIOUSLY overvalued, was a good time to buy. S&P 500 has never been cheaper.
HomerJ,

And, if someone believes that the USA may end up like Japan, buy the whole world instead. What else is there to discuss? And, if someone believes the whole world may have zero growth for 10 to 20 years, then, it is no longer a financial problem.

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Re: “Market Always Goes Up” defense without past performance

Post by munemaker »

Forget past performance. You need to have faith in growth of the US economy. If you don't, then you should not be investing in US stocks. Warren Buffett believes US companies are the best in the world, and that's why he invests here. Your beliefs are apparently different.

Could something come along and derail the US economy? Certainly it could, and it very well may. No one knows.
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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

KlangFool wrote: Mon Mar 04, 2019 4:40 pm And, if someone believes the whole world may have zero growth for 10 to 20 years, then, it is no longer a financial problem.
But, if one believes that, why would that person invest in stocks, which would probably be worth quite a bit less than they are today? If having a lot less money is not a "financial problem," I don't know what is.
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Re: “Market Always Goes Up” defense without past performance

Post by JackoC »

gmaynardkrebs wrote: Mon Mar 04, 2019 4:18 pm
JackoC wrote: Mon Mar 04, 2019 3:48 pm
financeguy88 wrote: Sun Mar 03, 2019 2:35 pm I don't think that systemic breakdown is overstating things.
If 'the system breaking down' means socio-political chaos your formulation is questionable IMO. Japan has seen a long period of very poor returns in domestic risk assets since the 1980's, and as that period dragged on, govt bond yields also settling at basically zero return. There isn't social chaos in Japan, it's still a very nice place. ...
But, a whole generation of savers in domestic risk assets have made next to nothing, basically zero real return on the Nikkei 1988-2018.
The fact is 84 percent of the stock in the United States is owned by the top 10 percent of households by net wealth. The bottom 80 percent of households own only about 7 percent of stock. BTW, that includes indirect ownership through mutual funds, IRAs, 401Ks, and other retirement accounts. The upper 10% are not known for being socially disruptive radicals. And anybody who thinks the bottom 80% are going storm the Bastille because a bunch of rich people's 401K balances aren't as high they used to be needs to get out more.
In fairness I don't think financeguy88 is saying wealthy investors would rebel. I think the idea is that prolonged zero/negative stock returns would signify a condition in the real economy, and feed back to the real economy, in a way which would cause a 'breakdown'.

And it's certainly not *my* argument that wealthy investors would turn to radicalism or violence due to prolonged poor returns. I don't buy financeguy88's basic argument much at all. Japan is a clear example of a rich country with multi-decade zero stock returns: no rebellion, no 'breakdown', not even *that* bad economic performance, though somewhat stagnant. And that causes social tension, and you'd probably see more of that rise to the surface in various forms of ugliness in a less cohesive society than Japan...like say the US if there was 0% real return on the S&P for 30 yrs. But a 'breakdown'? not necessarily. Besides which as I said last time, even if one insists there would be a societal breakdown in the US if the stock market didn't return anything for a long time, why does that mean it can't happen?

IMO the simple answer to OP question is that only (selectively) relying on past returns as predictors of the future can you say 'the market will always go up' (selectively because there have been stock markets in other countries which didn't return much if anything for long periods in the past, or even went to zero permanently). There is no certainty stocks will generate positive real returns even in the long run. That's what 'risk asset' means, there's no special feature of a floor at zero real return.

One estimates the real expected return of stocks, compares it to the real return on bonds, and decides what if any allocation to stocks that justifies. I think the current real expected return on stocks is something like 3-4% pre tax, the long term TIPS yield is around 1%, and that premium justifies a significant stock allocation in my situation. I don't believe there is another asset or strategy that somehow gets around those low numbers*. They're just low, not indicators of impending doom, and don't signify any particular prediction of the to and fro from year to year.

*one might diversify beyond financial assets, eg to real estate, I also think generally low stock expected returns are a reason not to pass up easy diversification into other countries' stock markets. However no magic bullet, expected returns are pretty low in real estate and foreign stocks also.
Last edited by JackoC on Mon Mar 04, 2019 5:25 pm, edited 1 time in total.
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Re: “Market Always Goes Up” defense without past performance

Post by KlangFool »

gmaynardkrebs wrote: Mon Mar 04, 2019 5:06 pm
KlangFool wrote: Mon Mar 04, 2019 4:40 pm And, if someone believes the whole world may have zero growth for 10 to 20 years, then, it is no longer a financial problem.
But, if one believes that, why would that person invest in stocks, which would probably be worth quite a bit less than they are today? If having a lot less money is not a "financial problem," I don't know what is.
gmaynardkrebs,

It is no longer a money problem. There will be worldwide social unrest.

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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

KlangFool wrote: Mon Mar 04, 2019 5:23 pm
gmaynardkrebs wrote: Mon Mar 04, 2019 5:06 pm
KlangFool wrote: Mon Mar 04, 2019 4:40 pm And, if someone believes the whole world may have zero growth for 10 to 20 years, then, it is no longer a financial problem.
But, if one believes that, why would that person invest in stocks, which would probably be worth quite a bit less than they are today? If having a lot less money is not a "financial problem," I don't know what is.
gmaynardkrebs,

It is no longer a money problem. There will be worldwide social unrest.

KlangFool
Ok, FWIW, I think zero growth could happen without widespread social unrest, but that's just my opinion. I just didn't understand what you were saying, I appreciate the clarification.
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Re: “Market Always Goes Up” defense without past performance

Post by KlangFool »

gmaynardkrebs wrote: Mon Mar 04, 2019 6:23 pm
KlangFool wrote: Mon Mar 04, 2019 5:23 pm
gmaynardkrebs wrote: Mon Mar 04, 2019 5:06 pm
KlangFool wrote: Mon Mar 04, 2019 4:40 pm And, if someone believes the whole world may have zero growth for 10 to 20 years, then, it is no longer a financial problem.
But, if one believes that, why would that person invest in stocks, which would probably be worth quite a bit less than they are today? If having a lot less money is not a "financial problem," I don't know what is.
gmaynardkrebs,

It is no longer a money problem. There will be worldwide social unrest.

KlangFool
Ok, FWIW, I think zero growth could happen without widespread social unrest, but that's just my opinion. I just didn't understand what you were saying, I appreciate the clarification.
gmaynardkrebs,

I disagreed. And, the reason has to do with India and China. This involves 40% of the world population.

https://www.livemint.com/Politics/a0y9f ... -data.html

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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

KlangFool wrote: Mon Mar 04, 2019 6:28 pm
gmaynardkrebs wrote: Mon Mar 04, 2019 6:23 pm
KlangFool wrote: Mon Mar 04, 2019 5:23 pm
gmaynardkrebs wrote: Mon Mar 04, 2019 5:06 pm
KlangFool wrote: Mon Mar 04, 2019 4:40 pm And, if someone believes the whole world may have zero growth for 10 to 20 years, then, it is no longer a financial problem.
But, if one believes that, why would that person invest in stocks, which would probably be worth quite a bit less than they are today? If having a lot less money is not a "financial problem," I don't know what is.
gmaynardkrebs,

It is no longer a money problem. There will be worldwide social unrest.

KlangFool
Ok, FWIW, I think zero growth could happen without widespread social unrest, but that's just my opinion. I just didn't understand what you were saying, I appreciate the clarification.
gmaynardkrebs,

I disagreed. And, the reason has to do with India and China. This involves 40% of the world population.

https://www.livemint.com/Politics/a0y9f ... -data.html

KlangFool
True...important to keep that in mind.
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Re: “Market Always Goes Up” defense without past performance

Post by financeguy88 »

JackoC wrote: Mon Mar 04, 2019 5:18 pm
gmaynardkrebs wrote: Mon Mar 04, 2019 4:18 pm
JackoC wrote: Mon Mar 04, 2019 3:48 pm
financeguy88 wrote: Sun Mar 03, 2019 2:35 pm I don't think that systemic breakdown is overstating things.
If 'the system breaking down' means socio-political chaos your formulation is questionable IMO. Japan has seen a long period of very poor returns in domestic risk assets since the 1980's, and as that period dragged on, govt bond yields also settling at basically zero return. There isn't social chaos in Japan, it's still a very nice place. ...
But, a whole generation of savers in domestic risk assets have made next to nothing, basically zero real return on the Nikkei 1988-2018.
The fact is 84 percent of the stock in the United States is owned by the top 10 percent of households by net wealth. The bottom 80 percent of households own only about 7 percent of stock. BTW, that includes indirect ownership through mutual funds, IRAs, 401Ks, and other retirement accounts. The upper 10% are not known for being socially disruptive radicals. And anybody who thinks the bottom 80% are going storm the Bastille because a bunch of rich people's 401K balances aren't as high they used to be needs to get out more.
In fairness I don't think financeguy88 is saying wealthy investors would rebel. I think the idea is that prolonged zero/negative stock returns would signify a condition in the real economy, and feed back to the real economy, in a way which would cause a 'breakdown'.

And it's certainly not *my* argument that wealthy investors would turn to radicalism or violence due to prolonged poor returns. I don't buy financeguy88's basic argument much at all. Japan is a clear example of a rich country with multi-decade zero stock returns: no rebellion, no 'breakdown', not even *that* bad economic performance, though somewhat stagnant. And that causes social tension, and you'd probably see more of that rise to the surface in various forms of ugliness in a less cohesive society than Japan...like say the US if there was 0% real return on the S&P for 30 yrs. But a 'breakdown'? not necessarily. Besides which as I said last time, even if one insists there would be a societal breakdown in the US if the stock market didn't return anything for a long time, why does that mean it can't happen?

IMO the simple answer to OP question is that only (selectively) relying on past returns as predictors of the future can you say 'the market will always go up' (selectively because there have been stock markets in other countries which didn't return much if anything for long periods in the past, or even went to zero permanently). There is no certainty stocks will generate positive real returns even in the long run. That's what 'risk asset' means, there's no special feature of a floor at zero real return.

One estimates the real expected return of stocks, compares it to the real return on bonds, and decides what if any allocation to stocks that justifies. I think the current real expected return on stocks is something like 3-4% pre tax, the long term TIPS yield is around 1%, and that premium justifies a significant stock allocation in my situation. I don't believe there is another asset or strategy that somehow gets around those low numbers*. They're just low, not indicators of impending doom, and don't signify any particular prediction of the to and fro from year to year.

*one might diversify beyond financial assets, eg to real estate, I also think generally low stock expected returns are a reason not to pass up easy diversification into other countries' stock markets. However no magic bullet, expected returns are pretty low in real estate and foreign stocks also.
With all due respect, I disagree and think your analysis omits or is incorrect on some key facts.

Firstly, Japan has huge net savings, so is self funding. The government is in massive debt and private savings are even more massive, so the balance is net positive. The US private market has net savings but as a country we are in net debt. So the Japan analogy doesn't hold in that regard.

Furthermore, as I stated initially, the US asset markets are unique, in that gains are used to fund actual liabilities on a large scale, unlike in Japan, China, or Europe. For a simple example, the average pension system in the US is assuming roughly a 7% return. It is almost mathematically impossible to achieve this return in any scale without asset appreciation, given the current yields even on junk bonds average 5%. I suppose an individual pension fund could be a really good stock picker or buyer of real estate, or invest in the right private equity, venture or hedge fund, but the reality is they are essentially long benchmarks. Thus without overall asset appreciation over the long term every state and company with a pension fund is bankrupt.

You are right to say for private citizens that equity ownership is very top-end loaded, but guess what else is top end loaded? Consumption, which comprises ~70% of GDP! The top 5% account for approximately 25% to 30% of all consumption, and the top 20% account for 55% to 60%. Thus one could argue that ~20% of GDP is from the top 5%'s consumption alone (doesn't include the fact that many are business owners making investment decisions -- another big component of GDP) and top 20% are ~40% of total GDP. These folks, as your correctly flag, are much more sensitive to equity market moves. And the level of financial assets to GDP is as high as its been so the sensitivity of a huge percentage of GDP to asset price moves is as high as it has ever been in history.

In any case my comments may have been misinterpreted to be very bearish on equity markets or that there is some major systemic breakdown looming. I think the weakest part of my argument is around what is considered a "break down." I consider a "break down" to be a deflationary spiral down of bankruptcies and business failures that disrupts the everyday societal functioning. This is what Bernanke was aiming to prevent when he dropped money from the sky like "a helicopter" in 2009. This is why Powell was forced to do a complete U-Turn, and actually open the door to more money printing, after initially trying to do the opposite. The point of my original post was to say that without asset appreciation the system does "break down", which means if you don't believe in asset appreciation over time you are betting on a major disruptive event in the US
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Re: “Market Always Goes Up” defense without past performance

Post by CyclingDuo »

blacksmith4 wrote: Thu Feb 28, 2019 8:42 pmVirtually all of the advice here seems to be based on past performance.
Past performance is no guarantee of future returns blah, blah, blah, but I'll take the side that we'll see more of the same over the next 200+ years as we've seen in the past.

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Re: “Market Always Goes Up” defense without past performance

Post by aspiringboglehead »

financeguy88 wrote: Mon Mar 04, 2019 8:48 pm For a simple example, the average pension system in the US is assuming roughly a 7% return.
The average public pension system. So if I'm reading you correctly, the core of your argument is that either stocks will continue to rise or several states and municipalities will have pension crises. That seems true, but I don't think it's particularly actionable.
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Re: “Market Always Goes Up” defense without past performance

Post by financeguy88 »

aspiringboglehead wrote: Mon Mar 04, 2019 9:42 pm
financeguy88 wrote: Mon Mar 04, 2019 8:48 pm For a simple example, the average pension system in the US is assuming roughly a 7% return.
The average public pension system. So if I'm reading you correctly, the core of your argument is that either stocks will continue to rise or several states and municipalities will have pension crises. That seems true, but I don't think it's particularly actionable.
That isn’t the core of my argument. That’s the core of that particular sentence. Private pensions assume the same level or higher returns, so not sure why you inserted public either. Also I don’t know what you mean by “actionable.” I was giving my view on why the market has to structurally go up over time.
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Re: “Market Always Goes Up” defense without past performance

Post by aspiringboglehead »

financeguy88 wrote: Mon Mar 04, 2019 9:56 pm
aspiringboglehead wrote: Mon Mar 04, 2019 9:42 pm
financeguy88 wrote: Mon Mar 04, 2019 8:48 pm For a simple example, the average pension system in the US is assuming roughly a 7% return.
The average public pension system. So if I'm reading you correctly, the core of your argument is that either stocks will continue to rise or several states and municipalities will have pension crises. That seems true, but I don't think it's particularly actionable.
That isn’t the core of my argument. That’s the core of that particular sentence. Private pensions assume the same level or higher returns, so not sure why you inserted public either. Also I don’t know what you mean by “actionable.” I was giving my view on why the market has to structurally go up over time.
I'm not an expert in pensions, but my understanding has been that GAAP requires private pensions to use considerably lower discount rates that mirror the riskfree rate of return.

This matter does seem to be the core of your argument, because it's not clear what other "liabilities" are at issue. If it's just the debt of the federal government, there's certainly no consensus that the only two possible consequences of that debt are either continual stock-market increase or national catastrophe, and the relationship between the two isn't even clear: the federal government does not itself rely on equities to fund its debt.

By "actionable," I just mean that the argument doesn't change my confidence about any particular outcome in the stock market. If I had been persuaded that stocks needed to rise to avert national catastrophe and that policymakers would do everything within their power to insure that future returns from equities mirror historical ones, that would indeed change my confidence about particular outcomes. But I don't see how your argument shows that.
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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

financeguy88 wrote: Mon Mar 04, 2019 8:48 pm The point of my original post was to say that without asset appreciation the system does "break down", which means if you don't believe in asset appreciation over time you are betting on a major disruptive event in the US
You are reversing the causality. It runs this way: When there is a systemic breakdown, asset prices collapse, not the other way around. Specifically, a collapse of asset prices (or lack of asset appreciation over time) does not cause a systemic breakdown, as you appear to think. Take two examples: There was a collapse of asset prices in the Tech Bubble, but no systemic breakdown ensued. By contrast, in 2008 a systemic breakdown occurred first (the run on the shadow banking system), which caused asset prices to collapse. Your line of reasoning is a fundamental error seem often on BH; it is used in most cases to justify the belief that "Markets should go up, and if they don't, it doesn't matter because there will be much bigger problems." This is nonsense. I'm not "betting" on pension funds running out of money, nor do I believe that some great force is keeping asset prices up to prevent such an ocurrence. An overvalued market, such as we appear to have today, will eventually go down for a very simple reason: it is over-valued. Occam's Razor.
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Re: “Market Always Goes Up” defense without past performance

Post by HomerJ »

gmaynardkrebs wrote: Mon Mar 04, 2019 10:37 pmAn overvalued market, such as we appear to have today, will eventually go down for a very simple reason: it is over-valued. Occam's Razor.
Sure, and then it will probably go back up again some years later, and since earnings have continued to grow all that time, the price will go even higher than today.

Because even if you're right that today today's prices are overvalued, in the future, they probably won't be.

Long-term returns INCLUDE the crashes.
A Goldman Sachs associate provided a variety of detailed explanations, but then offered a caveat, “If I’m being dead-### honest, though, nobody knows what’s really going on.”
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Re: “Market Always Goes Up” defense without past performance

Post by financeguy88 »

aspiringboglehead wrote: Mon Mar 04, 2019 10:05 pm
financeguy88 wrote: Mon Mar 04, 2019 9:56 pm
aspiringboglehead wrote: Mon Mar 04, 2019 9:42 pm
financeguy88 wrote: Mon Mar 04, 2019 8:48 pm For a simple example, the average pension system in the US is assuming roughly a 7% return.
The average public pension system. So if I'm reading you correctly, the core of your argument is that either stocks will continue to rise or several states and municipalities will have pension crises. That seems true, but I don't think it's particularly actionable.
That isn’t the core of my argument. That’s the core of that particular sentence. Private pensions assume the same level or higher returns, so not sure why you inserted public either. Also I don’t know what you mean by “actionable.” I was giving my view on why the market has to structurally go up over time.
I'm not an expert in pensions, but my understanding has been that GAAP requires private pensions to use considerably lower discount rates that mirror the riskfree rate of return.

This matter does seem to be the core of your argument, because it's not clear what other "liabilities" are at issue. If it's just the debt of the federal government, there's certainly no consensus that the only two possible consequences of that debt are either continual stock-market increase or national catastrophe, and the relationship between the two isn't even clear: the federal government does not itself rely on equities to fund its debt.

By "actionable," I just mean that the argument doesn't change my confidence about any particular outcome in the stock market. If I had been persuaded that stocks needed to rise to avert national catastrophe and that policymakers would do everything within their power to insure that future returns from equities mirror historical ones, that would indeed change my confidence about particular outcomes. But I don't see how your argument shows that.
You are wrong that private pensions use lower discount rates that "mirror the risk-free rate." Private pensions assume similarly high returns that require equity price appreciation.

I don't know if you took the time to read what I wrote, but I laid out the fact that beyond pensions, a huge percentage of GDP (consumption, and indirectly investment) is effectively funded by asset price appreciation, either directly or indirectly. I believe that this is a more significant piece of my argument than the pension piece. While consumption is not a "liability" in the strictest definition of the word, it effectively is a liability because it is spending that is required to maintain or improve one's standard of living. Regardless of whether you agree that consumption is a liability or not, if it declines, GDP drops, and this leads to a deflationary downward spiral. And as I've stated, given the leverage in the economy, relatively small changes in consumption will lead to this downward move.
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Re: “Market Always Goes Up” defense without past performance

Post by financeguy88 »

gmaynardkrebs wrote: Mon Mar 04, 2019 10:37 pm
financeguy88 wrote: Mon Mar 04, 2019 8:48 pm The point of my original post was to say that without asset appreciation the system does "break down", which means if you don't believe in asset appreciation over time you are betting on a major disruptive event in the US
You are reversing the causality. It runs this way: When there is a systemic breakdown, asset prices collapse, not the other way around. Specifically, a collapse of asset prices (or lack of asset appreciation over time) does not cause a systemic breakdown, as you appear to think. Take two examples: There was a collapse of asset prices in the Tech Bubble, but no systemic breakdown ensued. By contrast, in 2008 a systemic breakdown occurred first (the run on the shadow banking system), which caused asset prices to collapse. Your line of reasoning is a fundamental error seem often on BH; it is used in most cases to justify the belief that "Markets should go up, and if they don't, it doesn't matter because there will be much bigger problems." This is nonsense. I'm not "betting" on pension funds running out of money, nor do I believe that some great force is keeping asset prices up to prevent such an ocurrence. An overvalued market, such as we appear to have today, will eventually go down for a very simple reason: it is over-valued. Occam's Razor.
You are completely confusing concepts and mixing terms. I am not arguing the that market can't drop -- obviously it can. I am arguing that, over time, the market structurally has to rise, to avoid this breakdown. This was the question that the OP was asking.

Also we have not yet had a "systemic breakdown." The tech bubble was not a systemic breakdown, and nor was the financial crisis. This is because, the government intervened to drive asset prices higher and break the deflationary spiral downwards. In 2008 / 2009, we were getting quite close to this breaking point but never got there.

Hopefully this clarifies things.
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Re: “Market Always Goes Up” defense without past performance

Post by fwellimort »

People keep forgetting that 2008 financial crisis or 2000 tech bubble really meant nothing if you held your money for long period of time. That is what investing is in the index is. Trusting your investing instrument over LONG periods of time.
Graham said it himself.
“In the short-term, the market is a voting machine. In the long-term it is a weighing machine.”
This is why we invest at end of day. If you don't understand that quote, I urge you to study how the market works. I know 'hitting the books' is not exactly 'fun' but it is exactly something I did because I questioned the index myself and the potential consequences if the vast majority invested in the index over actively managed funds.

2008 financial crisis on someone who invested in 1974 when USD was no longer pegged to gold.
CAGR: 9.389% by 2009 March
Yes. Even with "end of world" drop, you averaged 9.389% a year. What does that mean?
Your $100 became $2,247.23 if you sold at the financial crisis.

So this argument with how "2008" or "2000" was end of world is funny in itself.
Image
In the long run, the historical returns were very consistent in the US. When you invest in the index, you are telling yourself you will trust the stock market for the next 30, 40, 50, 60 years like it had been in the past. And you don't buy it just once. You buy consistently every paycheck so it evens out. You know, in statistics, you get as much data points as possible to remove as much noise as possible. Some paychecks you lose. Some paychecks you win. But over time, if you trust the market will eventually go up, you will usually have more 'winners' than 'losers'. That's the entire premise added on with inflation being the greatest help to you in forcing the market to prop up over long periods of time.
Controlled inflation is really the reason the US stock market is trusted. We don't practice deflation like Japan does over there. We inflate our way. Give enough time and inflation should have the stock market give at least your principal back. Sure your purchasing power might have degraded severely. Say 50% or even 75% but that's the risk you take. Where else you put? Under the mattress? Under the mattress it loses to inflation 100% of time.

When we invest in the index, it does not mean "5 years from now". It's overvalued right now.
This is a lifetime investment. It might not work out but the odds are highly in your favor. It's more in your favor than you winning the lottery 3 times in a row.
Plus, there are times when yes, you really should avoid the market. But while the US Market is overvalued, it is nowhere near overvalued as people make out to be. Do some research how overvalued US Market is. It's really not much for those looking at the long run. A $10 product being sold as $12 is overvalued but it's not end of world. A $10 product sold as $120 is a different story. We are at the former, not at the latter.

If your argument then is "I don't have 30, 40, 50, 60 years", then too bad for you. That is your problem, not ours.
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gmaynardkrebs
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Re: “Market Always Goes Up” defense without past performance

Post by gmaynardkrebs »

financeguy88 wrote: Tue Mar 05, 2019 6:54 am
Also we have not yet had a "systemic breakdown." The tech bubble was not a systemic breakdown, and nor was the financial crisis. This is because, the government intervened to drive asset prices higher and break the deflationary spiral downwards. In 2008 / 2009, we were getting quite close to this breaking point but never got there.
When your car breaks down on the highway, and is then later repaired to running condition by the garage, that does not mean you did not have a breakdown. 2008 was a systemic breakdown of the financial system.Large investment banks failed, and even large and corporations and financial institutions were unable to roll over short term commercial paper, at which point the Fed was forced to intervene. Simply because the Fed "repaired" a system that had completely broken down doesn't mean there wasn't a systemic breakdown. If you mean that there was not a social breakdown, I agree, although there undoubtedly have been serious social and political tensions that have yet to be resolved. In fact, as a result of the crisis, the Fed's power to intervene as it did last time was taken away by Congress by the legislation passed soon after the crisis. Ihere I disagree with what I think you are saying -- perhaps I do misunderstand -- is that some sort of rescue will be very likely, because the entire edifice depends on rising asset prices. That is not true -- the "system" could just as easily choose to nationalize the banking system and key industries in a severe crisis -- even in the last crisis, Fannie and Freddie, AIG, Lehmann, and Bear Stearns shareholders were virtually wiped out. Whether you intend it or not, you are implying that there is ultimately a "de facto FDIC" insurance for asset prices long term, including your 401K. I think that is a fantasy.

PS: Now cue the chorus -- if we ever had to nationalize the banks, we'd all be drinking bottled water anyway, so "stay the course! :)
JackoC
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Re: “Market Always Goes Up” defense without past performance

Post by JackoC »

financeguy88 wrote: Mon Mar 04, 2019 8:48 pm
JackoC wrote: Mon Mar 04, 2019 5:18 pm And it's certainly not *my* argument that wealthy investors would turn to radicalism or violence due to prolonged poor returns.

IMO the simple answer to OP question is that only (selectively) relying on past returns as predictors of the future can you say 'the market will always go up' (selectively because there have been stock markets in other countries which didn't return much if anything for long periods in the past, or even went to zero permanently). There is no certainty stocks will generate positive real returns even in the long run. That's what 'risk asset' means, there's no special feature of a floor at zero real return.
With all due respect, I disagree and think your analysis omits or is incorrect on some key facts.

1. Firstly, Japan has huge net savings, so is self funding. The government is in massive debt and private savings are even more massive, so the balance is net positive. The US private market has net savings but as a country we are in net debt. So the Japan analogy doesn't hold in that regard.

2. Furthermore, as I stated initially, the US asset markets are unique, in that gains are used to fund actual liabilities on a large scale, unlike in Japan, China, or Europe. For a simple example, the average pension system in the US is assuming roughly a 7% return.

3. You are right to say for private citizens that equity ownership is very top-end loaded,

4. ...The point of my original post was to say that without asset appreciation the system does "break down", which means if you don't believe in asset appreciation over time you are betting on a major disruptive event in the US
1. You are making a common mistake there, equating overall private sector net worth with international asset position. Japan has a net asset position in foreign accounts, the US a net debt position. But US household net worth is now much larger relative to public debt than in Japan now. US household net worth is around $100tril, v central govt debt of ca, $16tril/$22 tril counting net or gross. In Japan household net worth is around $23tril v ~$10 tril central govt debt. Thirty years ago the Japan household wet worth to public debt ratio was more favorable, net worth hasn't changed dramatically, public debt is around 4 times higher now. But still not a dramatically different position then compared to US now. And nobody can say what the spending and taxation policy of the US would be in a long down turn in asset markets. Nobody can map out 30 yr scenarios as to exactly how each thing would go. But the Japan example can't be written off with 'Japan has more savings'.

2. I don't see any basis for that statement. People in every country invest for basically the same reasons. If you are saying US private investors (as generally seen in the distributions of return expectations on this forum) public pension plans and to a lesser degree corporate pension plans have overly optimistic return expectations, I agree. But what do you suppose return expectations were in Japan ca the mid 1980's (as the Nikkei and property reached one new high after another)? There were later lots of severely disappointed expectations, no social break down.

Mainly your whole line of argument ignores IMO the dimension of time. If, though I am certainly not predicting it, we soon enter into a 30 yr period of zero return on the S&P, that's obviously going to grind along for at least years without a 'breakdown'. Zero net return over 10 yrs is going to cause a 'breakdown'? That's pretty far fetched. It's some tipping function, but seems to me highly speculative to say it can't last 30 yrs, with a clear examples where it has.

3. The thing about concentration of wealth was brought in by somebody else. I think the actual economic fact of wealth distribution is tangential to the point. Perhaps it could be argued on the 'breakdown' side that pre-existing tension over socio-political attitudes toward wealth distribution could make the US more subject to socio-political upheaval for a given stress. However it's still trying to predict the connection between two different things which is simply not predictable. A 30 yr return drought in stocks could cause a big social upheaval or not. A social upheaval could occur with or without poor asset returns. Poor returns (and the real economic situation surrounding them) would make upheaval more likely, obviously. I just don't think it's that relevant to the original question, 'can you say the stock market will always go up without relying (selectively) on past results? No, you can't.

4. Again I don't get the logic of this. It seems to rely on some idea 'oh surely nobody would bet on an upheaval'. But it's not a matter of betting. It's a matter of recognizing downside risks. US stocks returns could be zero-ish for a long time. Anyone who thinks that's not a real possibility is kidding themselves IMO. Though it's not likely IMO. And it wouldn't necessarily cause an 'upheaval' (and how 'heaved' does it have to be to qualify?). Rather than artificially attaching the prospect of poor long term returns to more dire events and using that as excuse not to consider it, I think investors would be better off to think how they'd get by on zero returns for a long time, not how they'd survive in some total societal breakdown Armageddon, because they really aren't equal possibilities.
aspiringboglehead
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Re: “Market Always Goes Up” defense without past performance

Post by aspiringboglehead »

financeguy88 wrote: Tue Mar 05, 2019 6:49 am You are wrong that private pensions use lower discount rates that "mirror the risk-free rate." Private pensions assume similarly high returns that require equity price appreciation.
On the contrary, what I said before appears to be exactly correct: Statement of Financial Accounting Standards No. 87 from FASB lays out the accounting principles for private pensions as follows:
Assumed discount rates shall reflect the rates at which the pension benefits could be effectively settled. It is appropriate in estimating those rates to look to available information about rates implicit in current prices of annuity contracts that could be used to effect settlement of the obligation (including information about available annuity rates currently published by the Pension Benefit Guaranty Corporation). In making those estimates, employers may also look to rates of return on high-quality fixed-income investments currently available and expected to be available during the period to maturity of the pension benefits.
Experts at the Brookings Institute summarize this requirement as follows: "For corporate pension plans, the Financial Accounting Standards Board (FASB) requires that the discount rate must generally equal the rate on the 10-year Treasury – which has recently hovered near 2 per cent." See https://www.brookings.edu/opinions/time ... -pensions/. Government pensions, by contrast, use GASB's accounting standards, which have constrained the discount rates much less than for private pensions, permitting public pensions to adopt a discount rate informed by the hope of riskier returns.
financeguy88 wrote: Tue Mar 05, 2019 6:49 am I don't know if you took the time to read what I wrote, but I laid out the fact that beyond pensions, a huge percentage of GDP (consumption, and indirectly investment) is effectively funded by asset price appreciation, either directly or indirectly. I believe that this is a more significant piece of my argument than the pension piece. While consumption is not a "liability" in the strictest definition of the word, it effectively is a liability because it is spending that is required to maintain or improve one's standard of living. Regardless of whether you agree that consumption is a liability or not, if it declines, GDP drops, and this leads to a deflationary downward spiral. And as I've stated, given the leverage in the economy, relatively small changes in consumption will lead to this downward move.
I did read what you wrote carefully, but it does not support your conclusions. Of course consumption and investment would be reduced in the event of a significant contraction in assets, but that provides no basis for a prediction about asset contraction (or the political will or ability to avoid it). What you are describing as "structural" provides neither a constraint on asset prices nor a basis for predicting the specific, practical consequences of a stock-market crash. The system is too complex to permit reductionistic predictions based on simple theoretical propositions.
financeguy88
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Re: “Market Always Goes Up” defense without past performance

Post by financeguy88 »

aspiringboglehead wrote: Tue Mar 05, 2019 11:39 am
financeguy88 wrote: Tue Mar 05, 2019 6:49 am You are wrong that private pensions use lower discount rates that "mirror the risk-free rate." Private pensions assume similarly high returns that require equity price appreciation.
On the contrary, what I said before appears to be exactly correct: Statement of Financial Accounting Standards No. 87 from FASB lays out the accounting principles for private pensions as follows:
Assumed discount rates shall reflect the rates at which the pension benefits could be effectively settled. It is appropriate in estimating those rates to look to available information about rates implicit in current prices of annuity contracts that could be used to effect settlement of the obligation (including information about available annuity rates currently published by the Pension Benefit Guaranty Corporation). In making those estimates, employers may also look to rates of return on high-quality fixed-income investments currently available and expected to be available during the period to maturity of the pension benefits.
Experts at the Brookings Institute summarize this requirement as follows: "For corporate pension plans, the Financial Accounting Standards Board (FASB) requires that the discount rate must generally equal the rate on the 10-year Treasury – which has recently hovered near 2 per cent." See https://www.brookings.edu/opinions/time ... -pensions/. Government pensions, by contrast, use GASB's accounting standards, which have constrained the discount rates much less than for private pensions, permitting public pensions to adopt a discount rate informed by the hope of riskier returns.
financeguy88 wrote: Tue Mar 05, 2019 6:49 am I don't know if you took the time to read what I wrote, but I laid out the fact that beyond pensions, a huge percentage of GDP (consumption, and indirectly investment) is effectively funded by asset price appreciation, either directly or indirectly. I believe that this is a more significant piece of my argument than the pension piece. While consumption is not a "liability" in the strictest definition of the word, it effectively is a liability because it is spending that is required to maintain or improve one's standard of living. Regardless of whether you agree that consumption is a liability or not, if it declines, GDP drops, and this leads to a deflationary downward spiral. And as I've stated, given the leverage in the economy, relatively small changes in consumption will lead to this downward move.
I did read what you wrote carefully, but it does not support your conclusions. Of course consumption and investment would be reduced in the event of a significant contraction in assets, but that provides no basis for a prediction about asset contraction (or the political will or ability to avoid it). What you are describing as "structural" provides neither a constraint on asset prices nor a basis for predicting the specific, practical consequences of a stock-market crash. The system is too complex to permit reductionistic predictions based on simple theoretical propositions.
Good on you to dig into the details of pension accounting, but you're confusing discount rate (used to discount the liabilities) and expected rate of returns (used for the asset side of the equation). I don't have time to go into the detail but I suggest your read the pension section for Whirlpool's 10-K, to see a real world example understanding of how these interact (WHR is assuming a discount rate of 3.65% and rate of return of 6.75%, page 73): https://www.sec.gov/Archives/edgar/data ... 558B00CF77

Here is a link I found with a quick search: https://www.investopedia.com/university ... ments9.asp
aspiringboglehead
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Re: “Market Always Goes Up” defense without past performance

Post by aspiringboglehead »

financeguy88 wrote: Tue Mar 05, 2019 1:16 pm Good on you to dig into the details of pension accounting, but you're confusing discount rate (used to discount the liabilities) and expected rate of returns (used for the asset side of the equation). I don't have time to go into the detail but I suggest your read the pension section for Whirlpool's 10-K, to see a real world example understanding of how these interact (WHR is assuming a discount rate of 3.65% and rate of return of 6.75%, page 73): https://www.sec.gov/Archives/edgar/data ... 558B00CF77

Here is a link I found with a quick search: https://www.investopedia.com/university ... ments9.asp
Again, I'm not an accountant, but my understanding has been that the main consequence of the ERR is for a present assessment of corporate earnings; assuming an ERR that is too high does not misstate the pension liabilities or require unrealistic stock market growth to meet them, which is what I thought was at issue in the discussion. Clearly it's better for companies if their pension funds earn more from pension assets, but that's conceptually distinct from the claim that meeting private pension liabilities requires continuous large appreciation in equities.

It's fine to suggest more generally that reducing market growth could lead to a "spiral" (e.g., companies with pensions would have to reduce ERR, leading to lower corporate earnings, and so on), but that is just one factor among thousands in the overall economy, and it is exceedingly difficult to forecast that type of interaction in specific ways. At least, in the past, virtually no general predictions of that type have played out as theorists expected; the economy is just too complex to be reduced to straightforward models. Taking simple models too seriously is one reason why we get "one in a million" events every decade or so.
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Phineas J. Whoopee
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Re: “Market Always Goes Up” defense without past performance

Post by Phineas J. Whoopee »

I would not defend such an assertion, even if I had past performance backing me up. To echo a point sometimes made by poster nisiprius, it's amazing how many people wish to reap the rewards of equity investments while pretending they take no risk.
PJW
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