# The Cult of the Equity revisited after 10 years



## tyoung (30 May 2012)

Back in the day this was a very heated discussion as to whether equities were a special asset class that would outperform other asset classes in the long run.
 It's over 10 years since the last posting here but it's worth revisiting 

Original thread on The Cult of the Equity

in light of a recent FT piece(it's behind a paywall so I cannot post link).

Barron's has a reply here.
[broken link removed]
and here's a fairly balanced discussion of the topic( by an equity strategist!).
https://ir.citi.com/uABdbFqr9eDTXnRT7m11L4WO4%2Bwono8pBPx18%2BJB2ghRjZ6m9P09vQ%3D%3D


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## Monksfield (2 Jun 2012)

*Cof E*

I question superficial conclusions as to just how 'cheap' equities are given that the 'E' in P/E is on exceptionally high ground - companies have been growing earnings at rates well in excess of general economic growth for several years. 

However even if 'E' a good bit lower due to weak economies/de-leveraging etc valuing earnings/dividends by reference to the risk-free rate (whatever that is these days !) would suggest that equities are relatively attractive.

Another reason people should have a core holding in global equities in their portfolios is to give themselves some protection against inflation.....does not seem like a problem now but just wait - allowing inflation to rise is one of the classical ways of dealing with major debt problems. Holding global equities is also a sensible way of protecting wealth against euro break-up which looks increasingly likely.


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## ringledman (2 Jun 2012)

Equities have regressed significantly on the basis of P/E from their overvalued status follwing the tech bubble of 2000.

The P/E of the dow was around 30 times earnings and the Nasdaq around 50 times in 2000. Pure speculative bubble territory. The highest P/Es in history (except the Nikkei's 1990 bubble of 50-100 times).

[broken link removed]


We are now around 15-20 times on the CAPE for the USA market which still signifies overvaluation. The European markets are more tempting on around 10 times the CAPE-
http://valuestockinquisition.files.wordpress.com/2011/09/sg-europe-pe.png

Secular bear markets end on single multiple P/Es. This is what all empirical evidence suggests. Just look at any cyclically adjusted P/E chart and the bottom of each secular bear market is below 10 times. 

On this basis the Western indexes (certainly the USA) have further to fall or grind sideways for a number of more years before embarking on a new secular bull market. 

Equities were a bad buy in 2000. A much better bet now but further P/E compression should not be ruled out if history is anything to go by, as it usually is.

I am staying defensive. Boring value, large caps with decentish yield that are already on P/Es of below 10. Invest for income for a few more years and hold a large allocation in cash.


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## Brendan Burgess (5 Jun 2012)

Hi t

It's very interesting to revisit the discussion of 11 years ago. 

My advice in the Guide to Savings and Investments was something along the following lines (I will try to find the actual guide) 

Prirorise buying your own home
Reduce your mortgage to a comfortable level ( = your current salary or 50% of the value of your home) 
Nothing is risk-free - especially deposits and property (which were generally considered risk free)
Borrowing to invest is risky
Invest in a balanced portfolio of 10 Irish blue chip stocks - their earnings are diversified internationally.
Do not invest more than 20%  in banks. From memory, the banks (AIB, BoI and Anglo) formed around 40%  of the ISEQ which I thought was too risky.  
One can not time the markets. 
One can not pick winners - so buy a diversified portfolio of shares.

The ISEQ Overall is down 50%.  The Iseq General is down about 17%. The ISEQ financial is effectively wiped out. So an 80% investment in the ISEQ General and 20% in the ISEQ financial would be down around 35%.

"Nothing is risk-free - especially deposits and property (which were generally considered risk free)"
This turned out to be spectacularly correct. Depositors in Anglo and Irish Nationwide should have lost most, if not all of their money. Depositors in the other banks should have lost a chunk of their money. I didn't realise that as a taxpayer, I would be called on to make up their losses. 

*With the benefit of hindsight, how would I have revised that? 

*I think I would have been much stronger on "the borrowing to invest"  is risky bit. I would say - *Don't ever borrow to invest. *Pay off your borrowings, including your mortgage,  in full before investing. 

Cash turned out to be very risky and deposits were only saved by the Government guarantee. 

I don't have Irish government bond figures.  I presume that would have been a better investment than either Irish equities or Irish deposits.

*What would I say now in June 2012? 

*Nothing is risk-free.  
Don't *ever *borrow to invest 
Buying your own home is a good idea for both financial and non-financial reasons. But renting is a viable alternative. 
ETFs will give you a good exposure to foreign equities, but they are inefficient from a tax point of view.
You can't time the markets - but from time to time, it does seem that the markets can be hugely overvalued. In retrospect they were back in 2001 as Sea Pigeon pointed out. Presumably they can be hugely undervalued as well, although we haven't had that for many decades.


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## Brendan Burgess (5 Jun 2012)

I have found the following in a Word document.  I drew the attention of readers to the alternative view critical of the Cult of the Equity.

*A diversified stockmarket investment provides the best return and the lowest risk in the long term*
Buy about 10 of the top Irish shares and forget about them. You don't need to be an expert, just let the magic of the stockmarket do its work. £10,000 invested in 1971 would be worth £650,000 today or £75,000 in real terms. Expect crashes and slumps along the way, but these are only blips on the path to long term growth.


The CounterView
  This blind faith in the stockmarket led to a major debate on Askaboutmoney. In summary, it is argued that the stockmarket has performed so well, that it is now way overvalued. The American stockmarket in particular is still irrationally overvalued and may decline by up to 50% over the coming years. To see this view, have a look at The Great Debates on Askaboutmoney


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## Marc (5 Jun 2012)

Sorting stocks by any measure other than common risk factors can lead investors to bad outcomes from investing in equities and many conclude that the last 10 or 11 years have represented a lost decade for equity investors.

In practice it is bad process that is to blame here.

Failure to properly diversify a stock portfolio is the main reason why many investors incurred such large losses in recent years. Irish investors in particular held large positions in a relatively small number of effectively regional banks and a cement company whilst simultaneously gearing up property investments with loans from the same banks.

The market does not reward investors for investing in companies they are familiar with the market rewards investors for taking risks. Since stock specific risk can be diversified the market does not reward investors for taking risks they don't need to take.

Investing directly in Irish companies is free from capital gains tax on death and you can offset capital gains tax losses against profits. True but this is also true of investment trusts which are more diversified and therefore all things being equal are a better investment.

But you also have to factor in the impact of income tax on dividends which are taxed at your marginal rate of tax. A distributing investment fund is only taxed at 30%pa and therefore for a higher rate taxpayer over a long time period the lower income tax rate may be more valuable. There are no absolutes in investing and all investors should take professional advice to determine the best approach for their particular circumstances.

The final consideration is that Irish shares are subject to stamp
Duty brokerage commissions and bid offer spreads. These additional costs should also be considered when making a comparison with an investment fund.

I recently invested in a fund which holds a globally diversified portfolio of 11,000 individual companies and has 15% exposure to emerging markets and 85% to developed markets including Ireland. Think of this as an investment in capitalism inc rather than a bet on the prospects of a tiny number of Irish companies. I don't care where the companies are or what they do or make I don't care what sector they are in.

All i know is that I have far more companies than most people so I am more diversified. I have more small companies and more value companies so I have a higher expected return I have exposure to both developed and emerging markets I am protected by Ucits regulations against fraud, the turnover of the fund is low so that I am not exposed to unnecessary trading costs I can get audited report and accounts so I know that my investment is being run properly and I know that I am paying competive fees and I know that the total expense ratio is 0.67%pa.

What I will never know before the fact is how much I will make. But I have a positive expected return because I am investing in the market rather than gambling on the prospects of a few companies.


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## bullworth (5 Jun 2012)

Brendan Burgess said:


> Hi t
> 
> *What would I say now in June 2012?
> 
> ...




Biased in favor of house buying much Brendan ?

The statements above seem contradictory apart from the final one which in my opinion doesn't go far enough. Renting is not only viable , it would be preferable in times of extreme uncertainty.
Buying a house means for most people eliminating diversity and gambling 100% of their savings (and 100% of vastly greater borrowings) on only one asset and not only that but also taking out a crippling loan which limits their ability to emigrate or move in search of employment in an uncertain economy.

Buying your own home could be a good idea for both financial and non financial reasons but it could also be a horrific idea for both financial and non financial reasons. It has certainly been horrific for many people stuck in 100% negative equity for the past 5 years and counting.


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## Brendan Burgess (5 Jun 2012)

bullworth said:


> Buying your own home could be a good idea for both financial and non financial reasons but it could also be a horrific idea for both financial and non financial reasons. It has certainly been horrific for many people stuck in 100% negative equity for the past 5 years and counting.



Hi bullworth. A very good point. I have started a Key Post on the topic, so that we don't take this thread off topic.


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## Marc (6 Jun 2012)

So, should we write off the stock market? Of course not.

Stocks are priced to earn investors a return commensurate with the risks of owning stocks. Stocks are still more risky than bonds in the sense that the losses will be greater in a bad year.

The higher yield available from stocks compared to bonds does not make them "safer" than bonds. The higher yield is compensation for greater risk.

Of the four pillars of investing;returns,risk,costs and taxes; focus on risk was shown in the landmark study by Brinson Hood and Beebower to account for the lions share of a portfolio return.

If we pick stocks at random the expected return of any stock is about the same as that of the market but with a higher standard deviation. As we add stocks the variation of returns declines.

We also know that for two portfolios with the same average return, the portfolio with the lowest volatility has the highest terminal value. 

Therefore a more diversified portfolio is better for investors since taxes are less significant than asset allocation and lower volatility provides higher portfolio values.

QED


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## tyoung (31 Jul 2012)

Another excellent piece on the cult of equity. The writer runs the biggest bond fund in the world and so may have a particular bias.


Much the same discussion we had a decade ago.

"et the 6.6% real return belied a commonsensical flaw much like that of a chain letter or yes – a Ponzi scheme. *If  wealth or real GDP was only being created at an annual rate of 3.5%  over the same period of time, then somehow stockholders must be skimming  3% off the top each and every year. If an economy’s GDP could only  provide 3.5% more goods and services per year, then how could one  segment (stockholders) so consistently profit at the expense of the  others (lenders, laborers and government)?* The commonsensical  “illogic” of such an arrangement when carried forward another century to  2112 seems obvious as well. If stocks continue to appreciate at a 3%  higher rate than the economy itself, then stockholders will command not  only a disproportionate share of wealth but nearly all of the money in  the world! Owners of “shares” using the rather simple “rule of 72” would  double their advantage every 24 years and in another century’s time  would have 16 times as much as the skeptics who decided to skip class  and play hooky from the stock market."

and the conclusion,

"*The commonsensical conclusion is clear: If financial assets no longer work for you at a rate far and above the rate of true wealth creation, then you must work longer for your money, suffer a haircut on your existing holdings and entitlements, or both."

I think the aim of investing now is simply to preserve the purchasing power of your money and this will be much harder than in the past. My bias is towards  stocks with an overweight on emerging markets and large cap stocks in developed market.
But I think we'll all be working longer and retiring later.
*


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## ringledman (1 Aug 2012)

> “Stocks for the *really* long run” would have been a better Siegel book title.


 
Think that line sums it up. Stocks do very well over the very long term. 

Unfortunately the time period is often longer than many people's investment horizon. 

We are in a regression stage for stock markets since 2000. The 80s and 90s produced double digit returns on most years. The 60s and 70s pretty much flatlined.

We are back to the flatline decades. Regression to the mean. Always occurs in asset markets. Property, bonds, stocks. Its never different this time.

My approach is to stay global, hold an allocation to emerging and frontier markets, invest in large cap dividend stocks in the West. 

Hold gold, silver, commercial bonds and cash and hope for capital preservation as best as possible. 

Real stock returns will come from dividends more than capital over the next 5 to 10 years.


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## Marc (22 Feb 2015)

Lets wind the clock on from the last post of this thread and see how we would have done if we had bought into that particular narrative.

Emerging markets have underperformed developed markets and the frequently quoted "secular bear market" appears to still be in hibernation. Equities generally and global equities for a Euro investor in particular, have had a great couple of years.

Whilst developed large cap stocks have indeed perfomed well in the last few years there have been some notable "dividend stocks" that have had a relatively bad time including IBM, Tesco, BP, Glaxo, Vodaphone. The argument for broad diversification across asset classes is just as strong as ever.

In the bond market, despite frequent descriptions of return free risk, long term government bonds were one of the best performing asset classes last year and bond yields continued to fall resulting in PIMCO having some high profile staff changes. Meanwhile rates of return on cash deposits have also continued to decline.

August 2012 (the last post on this thread) just happened to almost exactly mark the top of the run up in precious metals prices.

So, as it turned out almost everything set out in the last post of this thread was off the mark to a greater or lesser extent.

I don't think it's fair to poke fun at people's tendency to fall for whatever compelling narrative is being peddled by their favourite Guru. But I do think it's fair to point out that if someone is posting on askaboutmoney and making definitive statements about what is going to happen over the next few years - well lets just say, there is a fair chance they are going to be wrong.

JP Morgan, when asked his opinion about what he thought the Stockmarket would do in the future said; "it will fluctuate" that's a prediction I can get behind.


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## Brendan Burgess (22 Feb 2015)

Marc said:


> So, as it turned out almost everything set out in the last post of this thread was off the mark to a greater or lesser extent.



Hi Marc,

I don't think that ringledman was that far off the mark.  Many who make "definitive statements" tend to say "Buy gold" or "buy bonds", or as I do, "Invest 100% in a portfolio of directly held equities".  But ringledman does not make such a definitive statement:



ringledman said:


> My approach is to stay global, hold an allocation to emerging and frontier markets, invest in large cap dividend stocks in the West.
> 
> Hold gold, silver, commercial bonds and cash and hope for capital preservation as best as possible.



He suggests global stocks, which is probably in contrast to those who tend to invest in Irish stocks only.  He doesn't specify the proportions of the other assets one should have in one's portfolio. But by recommending equities, commodities, bonds and cash, he was aiming for wealth preservation rather than aiming for the being the top performer, which would have been at the risk of being the worst performer.

I think in retrospect, I would give ringledman 8/10. And to whom would I give 10/10? No one really.


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## Marc (22 Feb 2015)

Brendan,

To put this into context, i posted after rereading several of his "chicken licken" posts and the whole of this thread.

In isolation you reference one sentence which broadly says;" be diversified". I agree, that is the best approach.

However, you ignore the fact that his interpretation of diversification is skewed (as is yours) to reflect a particular narrative.

His belief that equities were overvalued led him to exclude parts of the market that he didn't like. My point was that it was precisely those parts of the market that he didn't like that have seen the strongest growth. Whereas his selections were almost entirely in those parts of the market that have underperformed.

Consequently, he doesnt meet an objective definition of diversification - he didn't cover all the bases. He took a, in his view, "defensive" position based on a narrative and it turned out that that position relatively to a more inclusive portfolio was wrong. He actually avoided being diversifed. I call this di-worsification.

Adding more of the things to your portfolio that you want (or believe in) is ok to a point, its called tilting your portfolio and makes sense if you add equities at the expense of cash or tilt towards more risky equities, but this doesnt imply that you should be totally excluding those things that you don't like.

To say that his position is better than someone who is saying only buy Irish equities is like attending a meeting of the " flat earth society " and ending up talking to someone who thinks its like a bent playing card, convex but still basically flat. Hey, he would be above average - but still wrong.


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## Brendan Burgess (22 Feb 2015)

Am I the only one whose literary knowledge meant that I had to look up "chicken licken"? 

_Panic spreading strategy. 

from the story where chicken licken panicked all his friends into believing that the sky was falling when actually all it was was an acorn that fell on his head._


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## Brendan Burgess (22 Feb 2015)

Hi Marc

I have argued before that you and most others go  to a level of diversification which is just not necessary.  You often refer to a fund which has 10,000 stocks in it.  To me, that is no better than a fund with 100 stocks. ( I would go further and say that it is little better than a portfolio with 20 stocks, but I realise that I am in a minority on that one.)

What does "wrong" mean in this context?   I don't think that the bent card analogy is appropriate. They are plain wrong. 

The outcome of ringledman's strategy, is at this point in time, performing less well than some other strategies, but much better than the vast majority of strategies especially those who have stayed in cash.  Or much better than people who picked a particular share. 

You, ringledman and I might agree today that diversification is the best policy, borrowing to invest is unwise, and most of our portfolio should be in equities.  So we are in substantial agreement. 

You choose 100% equities and an ETF with 10,000 equities in it. 
I choose a portfolio of 10 directly held equities in the EU. 
ringledman makes an active choice that American equities are overvalued and defensive stocks are undervalued so he puts 50% of his money in these, and buys some commodities and bonds. 

I don't think that ringledman is wrong.  If we measure the return on his portfolio on 22 February 2025, he may be behind yours, but that does not make him wrong. 

It's not right to say that any investment strategy which does not adhere to the Westlake strategy is automatically wrong. 

Now I am off to read some kids' books. 

Brendan


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## monagt (22 Feb 2015)

"I choose a portfolio of 10 directly held equities in the EU"........... right away we have Currency Risk and Political EU Risk and its concentrated as its EU.
Then what about Country specific risk followed by the other risks.........Correlation among equities in terms of type of business, where they get most of their income...?

Surely at least 25 - 35 stick with 3%/4% in each?


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## Duke of Marmalade (22 Feb 2015)

Handbags girls

Going right back over a decade to the original Cult of Equity thread I was a leading protagonist of the case that it was a "cult" (not in the Charlie Flanagan meaning of that word) and therefore by implication bound to end in tears.

At this vantage point many years later I feel only partly vindicated - it has been a very rough ride but I guess cultists have won out in the end.  I now recognise that there is a Bernanke PUT Option.  For those unfamiliar with this theory it broadly states that the capitalist authorities and particularly the US will act to restore order to collapsing markets.  QE seems to be a spectacular demonstration of that phenomenon.  I hasten to add that I do not think this support of the markets is wicked.

As to diversification, well I could rant on forever.  Certainly 10,000 is OTT.  When going global one should be careful that the diversification really is what you want.  Consider a very simple example. Take a European punter choosing between an all European portfolio or between a 50/50 European/Japanese.  The latter has in the jargon of MPT less variance (risk) because of diversification but the punter will want to make the following utility call - would a situation where Euro stocks are falling but Japanese stocks are compensating be more of a happy outcome than the reverse i.e. Euro stocks doing well but being dragged down by Japan, be an unhappy outcome.


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## Gordon Gekko (22 Feb 2015)

Virtually all academic literature suggests that you need at least 30 stocks to be "diversified".

Re diversification, it's as much about buying companies which themselves deal all over the world (Nestle, Unilever, etc).


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## Duke of Marmalade (22 Feb 2015)

Just to elaborate on my last point.  The great majority of investors do not in fact indulge in global diversification.  UK punters greatly favour Footsie.  US punters S&P or Nasdaq, Japanese punters the Nikkei (I presume).

This can only partly be explained by currency or local knowledge considerations.  People like to keep in line or ahead with developments in their own economy, diversifying into other economies leaves them exposed to falling behind their local peers in a situation where the local economy is outperforming.  The obverse is that they outpace their peers when the local economy is underperforming.  I believe that the former is more important to investors than the latter and so the unbiased calculus of MPT is not valid for them.


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## Brendan Burgess (22 Feb 2015)

Gordon Gekko said:


> Re diversification, it's as much about buying companies which themselves deal all over the world (Nestle, Unilever, etc).



That is my point entirely. I have shares in companies like CRH, DCC, Bayer, Siemens. Their industry might be concentrated,but their earnings come from a lot of different currencies. 

Brendan


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## Brendan Burgess (22 Feb 2015)

Hi Duke

It's an interesting issue why people don't diversify. 

I assume that people buying funds are much more likely to diversify that someone buying shares directly.  If I am putting €50,000 into Irish Life, there is no administration hassle in splitting into property, bond, Irish equity, Euro equity, North American and commodity funds. 

Buying shares directly is more difficult for the small guy.  Believing in international diversification I bought shares in a German company many years ago. It was for my pension fund. I found it extremely difficult to find out the tax treatment.  Eventually I found that I was entitled to tax credits for taxes paid in Germany. But after months of hassle, I gave up trying to get the tax credit certificates and just wrote off the money. That put me off for some time. 

I later realised that most of my Irish shares were heavily diversified anyway. 

During the early stages of the euro crisis, I opened a bank account in Germany. Then I thought it might make more sense to buy German shares which I did.  I just picked two big names from the DAX, Siemens and Bayer because they gave me industry diversification as well. The tax treatment is fairly easy to follow.  I keep an eye on the share price and watch when the dividends are due. But I only discovered 6 months after it happened, that one of the companies had spun off a subsidiary and I now had shares in another company. 

MPT equates risk with volatility. Which is just plain wrong.  So maybe if you have 100 shares you will have less volatility than 10 shares. I am not sure that the real risk is much reduced. 

The main risk is that there will be a long term sustained loss of value by all shares. 

Brendan


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## Gordon Gekko (22 Feb 2015)

Brendan

Is the point not that "the market" should do (say) 7% a year on average and that the more shares one has, the closer one should get to that?

Of course that's an advert for Buffett's strategy for Joe Public (i.e. buy a cheap MCSI World Index tracking ETF and keep 10% in cash).

Tax is an issue for Irish investors though - An ETF is subject to the horrible offshore rules (41% tax on income and gains, the 8 year deemed exit and no loss relief). For a nation with quite a few capital losses sloshing around, that's far from ideal. And at least with direct equities, one has control regarding when a gain is triggered and no tax on death.


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## monagt (22 Feb 2015)

fyi 
"stocks are priced to deliver lousy returns over the next seven to 10 years - long-term stock returns from today's level will be about 2% per year"
http://uk.businessinsider.com/stock-market-crash-2015-2?r=US

All this and deposit interest/DIRT makes property look good


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## Gordon Gekko (22 Feb 2015)

monagt said:


> fyi
> "stocks are priced to deliver lousy returns over the next seven to 10 years - long-term stock returns from today's level will be about 2% per year"
> http://uk.businessinsider.com/stock-market-crash-2015-2?r=US
> 
> All this and deposit interest/DIRT makes property look good



Those articles and links are rehashed every six months or so.

The same guys were saying the same things a year ago and the market did 16-18%!


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## PMU (22 Feb 2015)

Marc said:


> Lets wind the clock on from the last post of this thread and see how we would have done if we had bought into that particular narrative..


Well, if you had invested in the S&P, in USD , the answer is you would have made a lot of money. While, as ringledman correctly points out in post # 3, “_We are now around 15-20 times on the CAPE for the USA market which still signifies overvaluation_.” investing in the S&P in Aug 2012 would have resulted in a gain of 51% to last Jan. In this period the Schiller CAPE moved from 21.41 to 26.96, both well above its historical average of 16.57.
I haven't been able to locate CAPE or any earnings related data for European stock markets, but if you had invested in the Eurostoxx50, in euro, in Aug 2012, which according to ringledman, was “ _more tempting on around 10 times the CAPE_”, you would have gained 24%, to last Jan. Not bad but not as spectacular as the gains the US investor would have had.
Two years is a rather short duration to reach firm conclusions on this issue, but, based on recent performance, there is little evidence here that equities are 'dead'. In this two year period, developed market equities (i.e. US, EU, and GB) protected you from declines in other asset classes (e.g. commodities, emerging market equities) or those that gave more modest returns (e.g. property), assuming you have a diversified portfolio.
Now these gains are counter intuitive, as investing in high priced assets is supposed to lead to lower returns in the long term than investing in more reasonably priced assets. But if ringledman did as he said “_I am staying defensive. Boring value, large caps with decentish yield that are already on P/Es of below 10. Invest for income for a few more years and hold a large allocation in cash_”, he would have gained as developed market indices are large cap indices, which increased in  value, and holding cash would have maintained capital values that you would have lost if invested in commodities and emerging markets.


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## Marc (22 Feb 2015)

Brendan ,

I think you need to be careful with statements to the effect that this strategy is performing "better than the vast majority of strategies, especially those who have stayed in cash"

True, a global portfolio of stocks like the MSCI World index (around 1200 stocks) is up by a little over 30% in Euro terms over the last 12 months. It is therefore relatively easy to infer that all investors in stocks will have done well over the last while. But this doesn't follow at all. Jp Morgan has just released data showing that since 1980 two thirds of US equities have underperformed the Russell 3000 index. The median stock returned 54% less than the market. Worse, 40% of stocks suffered declines of 70% or more. But the market increased 20 fold since 1980 the reason being that just 7% of stocks provided nearly all of the return of the index.

Similarly, I referenced several stocks that have lost value in the last year or so (BP, Tesco, GSK, IBM) these all meet with the "Large Cap dividend" category.

Precious metals also lost value over this period gold is down around 16% in Euro terms.

It is therefore perfectly possible if not highly probable that this "strategy" actually resulted in a capital loss in a period when equities generally performed well.

The real "cost" associated with failing to diversify broadly is measured by tracking error compared to a broad market index. This can be positive, like if someone had put all their money into Apple Inc, or it can be negative.

I accept that you might still claim a victory because you may have beaten cash by buying a portfolio of say European Value stocks. For example if you bought the top 30% of all UK and EU equites sorted by Book to market (around 160 stocks) then you would be up around 13% in the last year with all of this return earned in just the last 3 months.

But you took equity risk and therefore you "should" have earned more like 30%. The real cost over this period is the opportunity cost of the return forgone.

The real problem here is that the accepted measures of successful investment (sharpe ratios, standard deviation, and tracking error) are meaningless to most actual investors. As you put it, if you do better than cash you have done well. job done.

This perhaps explains why in the well publicised Dalbar studies in the US of a typical equity investor we see average returns well below the market and therefore well below the returns that were due to investors as compensation for the risks they took.


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## Brendan Burgess (22 Feb 2015)

Marc said:


> The real "cost" associated with failing to diversify broadly is measured by tracking error compared to a broad market index. This can be positive, like if someone had put all their money into Apple Inc, or it can be negative.



I  don't see the relevance of tracking "error"  for investors.   Say, a broad market index returns  x%.  If I invest in 10 shares within that index, I will get c. x% but not exactly x%. So what?



Marc said:


> Jp Morgan has just released data showing that since 1980 two thirds of US equities have underperformed the Russell 3000 index. The median stock returned 54% less than the market. Worse, 40% of stocks suffered declines of 70% or more. But the market increased 20 fold since 1980 the reason being that just 7% of stocks provided nearly all of the return of the index.



That is very interesting data. 

Two thirds underperfoming is what one would expect. The maximum loss on any equity is 100% but the gain is unlimited. 

_Worse, 40% of stocks suffered declines of 70% or more. _That surprises me and worries me.  I would have guessed that the majority of shares - maybe 80% -  increased in value with a few big losers and a few big winners.  I had not realised that 7% are compensating for the 40% dogs. 

If I have only 10 shares, there is around a 50% chance that I won't pick one of the good ones.  With 40% dogs, I will definitely have a few of them. And I will have some of the 53% which do ok. 

Have you a link  for the JP Morgan data?


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## Marc (22 Feb 2015)

Brendan

Here is the link

[broken link removed]


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## Fella (22 Feb 2015)

I've read that about 40% of stocks suffered declines of 70% or more myself actually somewhere.  After lots of research last year I took the plunge with ETF's , I read articles all the time about equities been over valued and correction due etc etc , truth is nobody really knows everyones guessing just buy the total stock market and don't try beat it, my portfolio is up about 15-20% in less than a year of investing , if I had of listened to the doom and gloom I would of kept the money in the bank earning nothing , I continue to top up 10k a month and rarely check the performance of them but its so easy to be diversified I don't understand why one would opt for picking individual shares. MSCI world/europe/emerging markets just keep buying monthly , some months they will be up some they will be down over the next 7/8 years but the expected trend is for them to rise , its a gamble lifes a gamble , everyones guessing i'd rather take my own guess than pay an advisor


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## Brendan Burgess (22 Feb 2015)

Fella said:


> I don't understand why one would opt for picking individual shares.



Because they are far more tax efficient than ETFs is the main reason, but this is discussed at length in other threads.

Brendan


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## Fella (22 Feb 2015)

Yeah I agree the tax is the only problem, but it would cost me a fortune in stock brokers fees to get similar diversification by buying individual shares. It's an interesting discussion , I would say there is no right or wrong , whatever you buy and whenever you buy it once the market is liquid enough you are buying at fair market price , it is at this price because thats how the market values it. The least amount of companys you hold the more likely you are to see bigger swings this could be positive or negative again I don't see any right or wrong way.  People want different things also , for me i'm investing a lot of my money I don't really want wild swings so am happy to for all world ETF's and hope that for not much volatility, whereas if i had say 10k i wanted to play around it with I would probably buy one or two stocks I liked and watch them keenly.


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