grayfox wrote:There are so many lessons to learn from this economic crisis and this bear market. Even restricting it to only the stock market or S&P 500, there are still many many lessons.
So I will just choose one big one. There have about a billions words of debate about whether valuations matter or not. Well now the matter has been has been settled once and for all by the market. Valuations Matter.
When valuations are very high, reduce your stock allocation. When we are setting new all time highs on the index, reduce your stock allocation. When we are in a bubble, reduce your stock allocation. When Bogel says be cautious, reduce your stock allocation.
Going back and reading some of these life lessons, not picking on grayfox but being I still see grayfox posting I wonder if he/she stills feels the same from 2008? In other words have some rethought about 2008 and look at it in a different light today?
I've learned a lot since 2008. In 2012/2013 I took several finance courses, like modern portfolio theory, financial econometrics, retirement planning, etc. so I have a slightly different outlook.
One thing I learned is that the mainstream thinking in modern finance is, wait for it, that valuations matter
Yep, if you read the Cochrane's summary paper from 2011, the main theme is:
High valuations forecast low returns. Low valuations forecast high returns.
Now that doesn't mean that when CAPE > 25 that a crash is imminent. You have to think of future stock returns over some holding period, say 20 years, as a distribution of possible outcomes that depends on the future state of the world. In one state, stocks may return 10% per annum. In another state, stocks may return 0% per annum. The value of your investment at the end is a random variable.
We do not know the exact shape of the distribution or the exact mean or the exact variance. These are unknowns. But we do know that higher valuations move the distribution of possible outcomes to the left. (Bad). Even if the risk has not gone down, the potential reward is less.
Now right now, U.S. stocks are about at all time highs. My portfolio is at an all time high. Valuations are elevated and expected return is below the historical average.
wbern wrote that if you already won the game, why keep playing?
Am I taking any action? What do you think?