Here's Nassim Taleb making sense, as usual. On mark-to-market:
mark-to-market makes banks look more dangerous, exactly like a thermometer makes a patient look more sick. Eliminating the mark-to-market is exactly like putting your head in the sand.
On retirement investing:
Have a dual strategy. The first one is hyperconservative. As much as you can - whatever you don't want to lose, don't lose. Don't trust the market with what you cannot afford to lose. Whether 80%, 90%, 20%, whatever it is that you need for your retirement, and the rest is play money....We're going to de-financialize the economy, to what we had in the '50s, '60s, and '70s. People will be fed up with the stock market, and will realize that they cannot rely on financial assets, neither as a reservoir of value, nor as a means to earn a living.
If Taleb is right, and the public does sour on stocks for the long run, putting their money into ultrasafe Treasuries instead, then we could face a secular shift in market activity and salaries. The retirement of the Baby Boomers will certainly exacerbate this problem for stock brokers, as a generation cashes out whatever they have left. It could be a long time before we get back to the October 2007 highs.
In another segment of his never-ending interview on CNBC, Warren Buffet gave advice Nassim Taleb would be proud of: don't stress about the day-to-day changes in the markets.
Who would have guessed - the key to investing for the long term is identifying well-performing businesses. Forget the quotes; look at the business. Or, in other words, look at companies that create real wealth, not those that merely seem like good speculative bets. Or, to rephrase once again, invest in companies Paul Graham of Y Combinator would endorse - companies that make something people want.
Um, no. While Buttonhood at the Economist cites research claiming "the US market has only been cheaper for 26 months in the last 140 years," conventional measures like Robert Shiller's 10 year cyclically adjusted P/E ratio suggest that stocks still have a ways to fall. Shiller's method uses ten years of earning data to mute the effect of short term earnings swings either up or down in valuing a stock. Applying this method to historical data gives an average stock price of 16X earnings. Today, the S&P 500 just dipped below 12X. So stocks are cheap, right? Not necessarily. Looking at past big bear markets, stocks typically overshoot on the downside and go to 5-8X. By this measure, there is a nontrivial chance stocks could go down 50% from present day value. James Glassman was right all along - if you erase a zero. Dow 3600!
But it gets worse. As Henry Blodget notes, we are exiting a fifteen year period where stocks have been enormously overvalued. At the peak of the dot com bubble, stocks were 45X. This was unprecedented. Even after the tech bubble collapsed, stocks remained elevated by historical standards, at roughly 25X. Considering we just witnessed the greatest speculative boom in US stock market history, it is certainly possible, as Blodget hypothesizes, that we could well have a longer and deeper trough in the markets than there were after past bubbles.
And this brings us to the notion that the Dow is somehow President Obama's "scorecard." Yes, Obama's economic team could have been much clearer with their plans for fixing the financial system. Their vagueness has certainly contributed to the uncertainty in the markets. But the markets declining from their New Year highs in the 9000s has nothing to do with Obama, and everything to do with the fact that there was a bear market sucker's rally that has since ended. We are exiting a credit bubble that overinflated asset prices across the board - these prices must fall. The president can not artificially inflate the Dow, just as he cannot artificially inflate home prices. Too much of the debate surrounding Obama's housing plan was whether this would "fix the housing market" and "stem the decline in home prices." This is nonsense. Home prices were a bubble; they were much higher than the fundamentals of supply and demand would dictate. Now they are falling, as they must. However, the Obama administration is correct in trying to help homeowners avoid foreclosure. That is where the focus should be, first with refinancing and ultimately writing down the principal for underwater borrowers. This will mitigate any overshooting on the downside with home prices, and ease the devastating social blow foreclosures have on families and communities.
For families facing trillions in lost wealth in the stock market and in home values, this is not welcome news. But it is the truth. That paper wealth is gone and is not coming back. We must get back to actually making things, and lay the foundation for real, sustainable growth in the future with investments in energy and infrastructure.
Update: For what it's worth, CNBC had Louise Yamada on today, talking about the possibility of the Dow going to 4000.
So get this: stock market crashes are bad. Don't believe me? Well don't take my word for it - listen to Harvard professor Robert Barro, who recently studied the correlation between stock market crashes and depressions (defined as at least a 10% drop in GDP or consumption). Barro's conclusion:
In the end, we learned two things. Periods without stock-market crashes are very safe, in the sense that depressions are extremely unlikely. However, periods experiencing stock-market crashes, such as 2008-09 in U.S., represent a serious threat.
I'm glad Robert Barro is here to tell us these things. Really, I am. But here's a tip: his study might actually be meaningful if he included debt levels as a variable. Debt deflation - a d-process - is the real culprit when it comes to depressions. As Irving Fisher described, when assets used as collateral for loans undergo price deflation, economies can fall into a downward spiral of deleveraging, leading to further falls in asset prices, and then even more deleveraging, as the two processes feed on each other in a negative feedback loop. I suspect if Barro redid his study and considered debt levels as well that the odds of today's crisis spiraling down into a depression would be significantly higher than the 20% figure he gave. I doubt he would compare our current situation to the crashes in 1974 and 2001. What does it say about the state of academic economics that "stock market crashes are bad" passes for insight from a professor at our nation's top university? Dark Ages, indeed.
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