The efficient market hypothesis is pretty hilarious. In theory, the market caps of companies should accurately reflect their value. So what exactly happens when the DOW drops 20% in a day and then recovers the next? When Tesla jumps 5x in a year due to investor sentiment, is their company 5x more valuable? It's incredibly divorced from reality. Nevermind that the efficient market hypothesis, when applied to business, completely discounts the ability to start a profitable company. The efficient market hypothesis is a never-reached universe end-state, and getting there requires arbitragers in the present, and this profession can be quite profitable.
The more Warren Buffet I read, the more I want to become a value investor due to the above premise.
The EMH doesn't really say that a 20 % rally means an equally sudden 20 % improvement of fundamentals.
The EMH says that you cannot, in the long run, make money on your prediction that there will be a 20 % rally tomorrow, because this, along with the relevant probabilities, are already priced in.
This is related to something that used to confuse me too: the most thickly traded commodity futures are extremely efficiently priced. Yet they exhibit clear seasonal patterns. Why wouldn't someone just buy in the low season and sell high for a near-guaranteed profit? The keyword is "near" -- the prices are such that they counterbalance the risk of deviation from the seasonal pattern.
To answer your specific question about what happens when markets drop: information happens. Events can have nth-order consequences that echo through the markets for months or years, as we find out more about them.
Edit: I should also say that market efficiency isn't a black and white thing. A market can be efficient to me even if someone like Ed Thorp can find mispriced assets.
The market is only completely efficient in the limit. For every mispricing someone finds and exploits the market gets a little efficienter.
My point is that if we take this definition literally, then it's trivially true that no markets are efficient by this standard. It's also true there's nothing to talk about since everyone agrees on this.
The interesting version of this discussion is where we acknowledge there's a spectrum of applicability where we can argue about statements like "some markets are pretty efficient sometimes" or "markets are almost never efficient" etc.
EMH serves the same purpose to economics as Euclidean space serves to geometry. If the hypothesis were true I can make a bunch of proofs and predictions in economics. The problem is when people confuse EMH with a fact, not an idea that is never really true in the real world, like an infinite perfectly flat plane.
Market efficiency doesn’t mean prices always exactly match current value. Only that they reflect all available information and take expected future returns as well as risk into account.
That's only true to a certain extent. Current prices have more to do with the Fed buying 10s of $T of everything than will actual company values (minus a small handful of companies). 2022 will be interesting as life gets back to "normal" and the Fed has to unroll the Titanic.
> I love Buffett, but probably it's expected to be convinced by whatever you're consuming right now.
Do you mean “those people are notorious for a reason, they can convice” or “our minds are susceptible to believing something we hear repeated several times”?
I believe the first is likely true, but I was thinking of the latter: most investing arguments are reasonable and when there is no contradictory it's easy for our brain to be swayed into believing what you're hearing.
I think this is true of all topics. Unless you already know about something you may believe what you're told if it seems reasonable, see also the Gell-Mann amnesia effect.
A few days ago I was discussing the stock market with my mother, who used to be the financial manager for several large companies before she retired. She stated that she's come to believe the speculation of company value is nothing but a pyramid scheme divorced from any actual value of said company. It's an opinion I've heard often from amateur speculators or self-proclaimed experts. It was interesting hearing it from someone I know and trust with serious experience managing the finances of large publicly traded companies.
Has it always been this way? I’m not that well versed in stock market history, but I hear it claimed that when companies gave out regular dividends, then the stock price would be correlated to (present and future) performance, as that gets reflected in dividend payments.
But something tells me that this might be rose-colored glasses, and it has always been a pyramid scheme at some level.
> Has it always been this way? I’m not that well versed in stock market history, but I hear it claimed that when companies gave out regular dividends, then the stock price would be correlated to (present and future) performance, as that gets reflected in dividend payments.
That's not true from any perspective. At the end of a buyback the company owns more of its own shares, and investors own less. The company bought something for its money.
Dividends are payments to those who own shares, and the company does not own more of anything after a Dividend pay out.
>At the end of a buyback the company owns more of its own shares, and investors own less
No, they own the same amount (as a group, proportionally), and each remaining shareholder owns more. Furthermore, the shareholders (as a group that owned the stock before the buyback was done) does get paid, because some of the shareholders sold their stake for cash.
>Dividends are payments to those who own shares, and the company does not own more of anything after a Dividend pay out.
Dividend payments aren't free. In fact, you can see that for dividend paying stocks, the share price steadily goes in the months leading up to a dividend payment, and on the dividend date it goes down roughly equal to the dividend paid.
> Dividend payments aren't free. In fact, you can see that for dividend paying stocks, the share price steadily goes in the months leading up to a dividend payment, and on the dividend date it goes down roughly equal to the dividend paid.
I thought it was a matter of math: company gave away some amount of money per share so it should have lost exactly that amount in valuation, what’s the catch?
Taxes are one of the reasons why the decline in price due to the dividend distribution may not be exactly equal to the amount distributed. And of course the decline in price due to the dividend distribution cannot be measured.
>She stated that she's come to believe the speculation of company value is nothing but a pyramid scheme divorced from any actual value of said company.
How so? What's the evidence for this, especially when you consider that the company's stock price goes up/down depending on their quarterly performance?
I think some of the recently IPOed tech stocks must be viewed in this light. For example, Deliveroo is basically a platform for skimming off of a market which until recently was mostly people working off books often without the correct insurance. They have undoubtedly unlocked some value in the system by allowing us to order from places which didn't previously provide that service (e.g McDonalds). But whether this justifies a £7bn valuation, I'm not convinced.
I think so far investors have been lucky with some of the tech companies which have IPOed and then proven that they do have the potential to generate a profit. I don't think it will take too many of these unicorns to IPO and fail before the blood bath in the "tech" industry begins.
>were saying back in 1996 when P-E valuations really went off the rails.
At least this time around, it's worth noting that money has become much cheaper, which inflates the price of every asset. When that's factored in, the present valuations are actually quite reasonable.
The world may be near the end of a long-term debt cycle, we will have to see.
In 1996 PE multiples were indeed high and there was indeed a correction. For instance the Nasdaq went from 1300 at the end of 1996, to over 5000, and back to 1300 in 2002. There was obviously productivity growth over 7 years, but valuations are another thing entirely.
Just a disclaimer for people reading, `economicprinciples.org`, despite having a very official sounding name, is presenting Ray Dalio's theories, not widely held economic principles.
None of it seems to me (although I am not an economist), but it should probably be taken with a grain of salt.
One difference between the stock market now and 25 years ago, is back then a hot tech company might IPO at a $1 billion valuation, and a stockholder could buy in and ride it up to $100 billion. Every $1 put into Cisco at its IPO in 1990 turned into $500 by 2000.
In recent years, Facebook did not IPO until it had a market cap of $100 billion. Stripe was just valued at ~$95 billion and there is little news on the horizon about a forthcoming IPO. Even considering inflation, hot tech companies are IPO'ing at a much higher valuation than they did 25 years ago. So the old stock market where you could ride up hot tech stocks in the public market is not the modern market. This also affects the returns on investing in the NASDAQ index and other indexes.
"But a return on investment of 200 percent per year is not very exciting when you only have a few hundred dollars in capital."
Huh? Take $500, double your money every year, and in 20 years you have over $500,000,000. Not very exciting? (And if he truly meant tripling your investment each year, i.e., a 200% return, the numbers are much crazier.) The article strains credulity for a tragicomic punch.
If you can average even 20% annual returns, you can become a billionaire within your probable lifetime, with a few years of a frugal engineer's savings as your stake. (Although the most common "self-made" trajectory from salaried to $1B is to achieve far greater than 20%/yr at the start, and much less than 20%/yr at the end.)
I'm not saying 20%/yr is easy or even a reasonable goal; but the fact that the article contemplates "200 per cent per year" returns evidences a lack of familiarity with how fortunes are actually built. Read "The Snowball" for a far more realistic account of getting to $1B.
Renaissance Tech's Medallion fund has been regularly hitting 15%/yr for a couple of decades. Most sane people think this is absurd and there must absolutely be some pyramid scheme fuckery going on. But it just keeps growing. The folks who are making their buys have figured out some winning scheme that just keeps on winning.
But I doubt there's such a thing as 20% that's going to keep going over anyone's lifetime. Not by means other than criminal.
Medallion is far beyond 15%/year. Between 1988 and 2018 they had an average annualized return of 39.1%. And the variance is remarkably low: since 1990 there has never been a year with less than a 20% return.
These figures are net. And for what it's worth, I am in the industry and I don't know any professional who thinks there's obvious fraud going on. It's possible, but you make it seem like there's a consensus that it's illegitimate when you say "most sane people." Frankly it's the other way around.
People who think the returns are fraudulent tend to be outside the industry and thoroughly unacquainted with what quantiles of returns are rare versus implausible. They usually hand wave a misinterpretation of Buffett's famous bet against hedge funds and Fama's (strong) Efficient Market Hypothesis.
> The folks who are making their buys have figured out some winning scheme that just keeps on winning.
I find it highly unlikely that it is about a winning scheme. In my limited understanding of these types of things, it is more likely about a succession of many winning schemes, because these things tend to stop working after a while so you have to find the next inefficiency to exploit.
It's true Buffett had an average annual return of 20.5% between 1965 and 2018. Soros had an average annual return of 32% over about the same time period.
Both of them have been underperforming in the last decade or so. Medallion is still radically outperforming, however.
Medallion has about $6.4 billion in assets and they have kept it about that size for quite a time for a reason. It would be much harder to get those high returns when trying to invest $100 billion like Buffet tries to do.
They're actually hard capped at $10B, up from ~$5B a decade or so ago. But you're right, they are thoroughly capacity constrained. Pretty typical for quant strategies in general.
Based on what I see from quant prop trader friends of mine in the Chicago area, if Medallion was an order of magnitude smaller they could probably juice their returns up to 150-300% pretty reliably.
Photo.net was my obsession back in the day. I never get tired of reading Philip, he's the best of the best. I had never read his opinions on money and they are great as well. Glad to have found this.
If you really believe this will not keep going up, why aren't you short the market?
(Genuine interest: I also debated exiting but then remembered the thing risk takers say about careful deliberation followed by fearless execution and I now have net negative equity exposure.)
If I'm wrong and the market keeps going up, I just miss out on some gains. If I short and the market keeps going up, I actually start losing capital (probably rapidly).
Ah, that makes sense. So it's not really that you think markets will not go up, and more about no longer thinking markets will not go down? (That is a complicated sentence but also the simplest I was able to make it after several attempts.)
1. Any time you make a risky investment (and this includes low-cost index funds) you should make it based on a falsifiable trading hypothesis specified in advance. E.g. "if Microsoft gets valued over $25, I should realise that I got either the direction or the timing of this one wrong and close the position, profit or loss."
2. Again, in advance, formulate a more general drawdown policy to gradually decrease the size of your losing positions.
3. Not ever make risky investments with anything that approaches your entire wealth.
My bearish position is not going to throw me into debt even in the worst case. And the EMH, in a sense, guarantees that less commissions, this bet (as would any bet) is on average going to get me my wager back.
So the question that remains is why I think the long-term average return is an unusually bad approximation for the near future. I could argue fundamentals, I could argue technical analysis, but it'd all be bunk.
I can list other reasons, too. Many big investors are short the market. My employment is long the market, so my capital being short it is sort of a hedge.
I can also list reasons it might be a bad idea. They don't weigh as much in my mind, of course.
In the end, I just don't know. I'm fully aware that I might have either direction or timing fully wrong. Most likely I do. But it seems to me like a low risk bet with potentially fairly good payoff.
About July 2019 and I quit my job and transferred my whole retirement portfolio into Bitcoin. I think it has gone up ~600% since then, so it has gone quite well. Bitcoin will peak this year and then I don't know what to put the money into. Certainly not stocks at this point in time. Maybe just sit in a stablecoin earning interest (you can get 8.6% sitting in Gemini USD on Blockfi) and wait and see what happens in a year with all markets.
Isn't the extremely high stablecoin interest only because we are in a bull run and there is a high demand for long leverage ?
You can make 20%+ shorting bitcoin futures 1x on bitmex or ftt right now, but those returns don't last when the price is not exploding upwards..
It seems that interest rate x P/E is a ~constant. Interest rates are near historical lows and have been falling. Therefore P/Es are high. Have to check if this relationship holds through the ages.
Low interest rates definitely helped in the last few decades. Recently, yields have been rising though, which created some choppiness in the market. I think one of the main reasons the market hasn't responded in a big way yet is money supply:
https://fred.stlouisfed.org/series/M1SL
The money being printed has got to go somewhere and a 1% return in the stock market (with high PE) is still worth more than a negative real rate accounting for inflation.
I tend to ignore P/E as a long-term, absolute metric because 1) it doesn't account for cash on-hand 2) it ignores expected growth 3) it ignores interest rates.
Notice Shiller has a more interesting metric, Excess CAPE yield, which also accounts for interest rates[0]. It gives a less negative view of the current equities market, but still shows it as expensive.
Yeah that's what I was aiming at. "Early employee stock options" or equivalent. I assume that kind of thing didn't exist in the periods this "wisdom" comes from, but I could be totally wrong.
Steal (obviously); the world is zero sum. Any money you have was taken from someone else. Probably an amazon truck driver who was forced at gun point into the job.
Confusingly i dont think its that simple. If you equate wealth to work, then with increased automatization, you can grow wealth without stealing it from someone else. Not saying that you can't increase wealth through exploitation though.
I think anonuser123456 was being sarcastic. The "forced at gunpoint" was, I think, a hint.
There are those who hold the viewpoint that if you don't have money from a job, you're eventually going to run afoul of those with guns (police), so you are forced at gunpoint to work somewhere. I've seen people say that here on HN. This is why I'm not sure that it was sarcasm. But still, I suspect it was.
I’ve never seen a US President as mistreated as Donald Trump was and it’s weird that it seems to have become a cultural meme to denigrate the guy. Whenever I’m reading an article and they decide to randomly take a jabs at him with no context or criticism of a specific policy it really takes the wind out of the sails of my interest in the topic at hand and makes me wonder if I can even trust the author not to mislead me further.
Take this terrible opinion to 4chan. Article is from 96. nothing to do with him being president, everything to do with him being a clown. The only (mis)treatment he's ever received is being treated too kindly.
the media was pretty rough on bush jr too. the trump coverage was more sensational, but idk how much of that is the man himself and how much is just the current style of journalism.
You realize we've had Presidents who were shot. Some fatally.
And the article does nothing but state a truth. Mainly because he is a well-known example of inherited wealth. And that he did not beat the average. How is that denigrating?
He spends way more words talking about Bill Gates than Donald Trump.
In fact, as noted above, the article was originally written in the 90s, and this line about Trump was in the original version written long before even Apprentice days.
Trump has been a punchline since long before he decided to run for president.
Per dmux's comment, the article is actually from the 90s and the reference to Trump was there then, too. So absolutely not politically motivated, barely even sneering to be honest.
Yeah it must be the over saturation, everywhere I look it seems is something negative and hateful towards Trump. They have even started identifying people a “Trump supporters” as if it’s some kind of identity that lingers on rather than just someone who supported a previous candidate. It’s nauseating.
The more Warren Buffet I read, the more I want to become a value investor due to the above premise.