By robbennett. Originally published at ValueWalk.
The late John Bogle was widely perceived as a severe critic of market timing. For good reason. Bogle had a riff that he liked to use in speeches in which he said that not only had he never known someone who was successful at market timing, he had never known anyone who knew someone who was successful at market timing. Bogle was a Buy-and-Holder. He believed that investors should “stay the course” by sticking with the same stock allocation at all times.
Doubts About Market Timing Being A Dubious Idea
Bogle offered some comments in an interview with the IndexUniverse.com site in the Summer of 2009 indicating that he had mellowed on the subject quite a bit. Bogle stated that: ““Big moves out of stocks should not be done at all….But tactical asset allocation — I should say strategic asset allocation rather than tactical — can be done at very rare times, so rare and so difficult to observe, maybe six times in an investor’s lifetime, three times when the market is stupidly high and three times when stupidly low.”
I have long wondered whether those words can fairly be characterized as an endorsement of market timing. On the one hand, Bogle is not saying that investors should change their stock allocation at times when stock prices hit extreme highs and lows. So I don’t think he was quite endorsing market timing in that statement. But he clearly is indicating that he thinks there is something to it. He didn’t think that investors should ever take all of their money out of stocks (I am the biggest advocate of market timing in the world and I agree with that much). And he seemed dubious as to whether investors could identify the times when market timing is a good idea. But he is clearly not dismissing the concept out of hand in those words (as he did when he said that he never knew anyone who knew anyone who was successful at market timing).
I like it that Bogle characterized market timing as “strategic” rather than “tactical.” It has long been a pet peeve of mine that people talking about market timing often refer to it as a “tactical” move. I don’t view it as a tactical move at all. Short-term timing (changing one’s stock allocation because of a guess as to when price changes will be taking place) is certainly tactical. But the approach to market timing that works – long-term timing – is done for strategic purposes. The idea is to change one’s stock allocation when the risk of owning stocks changes (because valuations shift). Long-term timers are seeking to “stay the course” in a meaningful way, not by keeping their stock allocation constant but by keeping their risk profile constant.
I am not able to make sense of Bogle’s observation that moments at which market timing would make sense would be “difficult to observe.” It seems to me that the CAPE value that applies tells the story. As the CAPE value increases, stocks become more risky. An investor who determined that a 60 percent stock allocation was proper when the CAPE was 17 would know that he needed to lower his stock allocation to 30 percent when the CAPE rose above 25. It might be hard to say precisely when an allocation change was needed. But I don’t see why there would be much difficulty in knowing in a general sense when an adjustment was in order.
Crazy Stock Prices
Bogle’s observation that stock prices are likely to reach crazy highs three times in an investor’s lifetime and crazy lows three times in an investor’s lifetime is on point. That observation is consistent with the historical return data. Changes in stock prices are generally not big enough to require an investor to make allocation shifts more frequently than once every 10 years on average. Bogle’s observation suggests to me that he spent some time grappling with what the historical return data reveals re these matters.
But there is an aspect of the Bogle statement that I have a very hard time getting a handle on. It’s true that an investor engaging in market timing with the aim of keeping his risk profile stable would not need to make allocation shifts more frequently than once every ten years on average. However, it is not true that the investor could return to his standard allocation (the allocation that he uses when stock prices are at moderate levels) in a short amount of time.
Consider where stock prices have been over the past 26 years. Prices were so high in 1996 that Robert Shiller issued a public warning that investors who failed to lower their stock allocation would come to regret not doing so within 10 years. The reality, however, is that prices have remained above fair-value levels for the entire 26 years since, with the sole exception of a few months in the immediate wake of the 2008 price crash. It is my belief that a valuation-informed investor should have been going with a lower-than-normal stock allocation (perhaps 30 percent stocks in the typical case) for almost that entire time-period.
Is that what Bogle was suggesting might work?
I don’t think so. He seemed to be suggesting that the timing experiment should be short-lived. My interpretation of his words is that timing only really works if the investor returns to his normal allocation after the passage of only a short amount of time. But then that distinction he draws between strategic and tactical timing throws me. An investor who is only willing to change his stock allocation for a short time is engaging in tactical behavior. A strategic timer would stick with the new allocation for as long as stock prices remained at the levels that caused him to switch to it.
And that has been for pretty much that entire 26-year time-period!
Engaging In Market Timing
If you believe in market timing (I do), you would not want to move off of your lower stock allocation until the riskiness of stocks diminished. And that simply has not happened for over two decades now. And of course it could be that we will have two decades of lower-than-normal stock prices in the days following the next price crash. So the valuation-informed investor might follow two decades of going with a lower-than-normal stock allocation with two decades of going with a higher-than-normal stock allocation. That investor would not be engaging in market timing only “at very rate times” at all.
I wish that Bogle were still around so that we could question him on exactly what he meant by his statement. It is a curious one. There are elements of the statement that indicate that he was beginning to grasp the merit of taking valuations into consideration when setting one’s stock allocation, But there are other elements of the statement that indicate that his thinking on this matter was too influenced by the common Buy-and-Hold failure to distinguish short-term timing from long-term timing for the overall statement to make complete sense.
Rob’s bio is here.
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