No. of Recommendations: 27
Sure, the "so-called worst-case event, when it happened, exceeded the worst case at the time” (Taleb).
But there's many reasons it's unlikely...Here's a way of looking at it. We know that the worst case that happened in the past can definitely happen.
OK, let's say we call that a fall to ground level.
But falling to the ground from 5 feet up is not the same risk as falling to the ground from 50 feet up.
This valuation table is based simply on the number of [smoothed] after tax earnings dollars per year you get for each dollar's worth of US cap-weight index investment.
If the market fell to the average valuation level 1930 to 1935, that would be a drop of -65% from here
If the market fell to the average valuation level 1936 to 1940, that would be a drop of -53%
If the market fell to the average valuation level 1941 to 1945, that would be a drop of -67%
If the market fell to the average valuation level 1946 to 1950, that would be a drop of -67%
If the market fell to the average valuation level 1951 to 1955, that would be a drop of -61%
If the market fell to the average valuation level 1956 to 1960, that would be a drop of -51%
If the market fell to the average valuation level 1961 to 1965, that would be a drop of -39%
If the market fell to the average valuation level 1966 to 1970, that would be a drop of -43%
If the market fell to the average valuation level 1971 to 1975, that would be a drop of -60%
If the market fell to the average valuation level 1976 to 1980, that would be a drop of -71%
If the market fell to the average valuation level 1981 to 1985, that would be a drop of -73%
If the market fell to the average valuation level 1986 to 1990, that would be a drop of -55%
If the market fell to the average valuation level 1991 to 1995, that would be a drop of -40%
If the market fell to the average valuation level 1996 to 2000, that would be a rise of 3% (woo!)
If the market fell to the average valuation level 2001 to 2005, that would be a drop of -21%
If the market fell to the average valuation level 2006 to 2010, that would be a drop of -37% (this is not exactly the deep dark past)
If the market fell to the average valuation level 2011 to 2015, that would be a drop of -30%
If the market fell to the average valuation level 2016 to 2020, that would be a drop of -13%
If the market fell to the average valuation level 2021 to 2025, that would be a drop of -3%
If the market fell to the average valuation level for the 70 year period 1930 to the end of the century, that would be a drop of -59% from today. So, the distribution of outcomes of a historical "4% rule" portfolio might reasonably be considered as likely as the results of a "1.65% rule" today.
For a specific example, if the valuation level tomorrow were the same as the valuation level at the August 1982 lows, the S&P 500 index would close at 918, a drop of -81%.
To hit the cheapness of 1921 it would close at 326.
Short summary: the broad US market is very expensive today compared to almost any time in the past, even if you assume the recently anomalously high net margins are representatively on trend. It was never in US history this expensive prior to July 1997.
So, if anyone is going to make the likely fatal mistake of thinking that past returns in certain intervals is representative of the likely range of forward returns from here, they should first adjust their portfolio value down by the figure shown for any interval(s) they think might be representative.
Add another margin of safety because net profit margins are at levels far above what was normal prior to the last couple of decades. Far higher than the highest in those decades, for that matter.
If that recent anomaly does not continue--and who says it has to?--all of those market drop estimates above are underestimates.
And then remember that the market got more expensive by almost 1%/year over the last century or so, so almost 1%/year of the past returns in any interval can not be extrapolated - returns rose faster than value did for a very long time.
And lastly, there is nothing at all to suggest that the market can't get cheaper than it ever did before. Note that the valuation levels were lower in the early 1980s than they were during the great depression. Imagine the surprise of investors who were used to the 1960s and concluded things could never get worse than history's nastiest.
Or that the market might get "pretty darned cheap" within the range of historical observations for a really
really long time. Stuff happens.
The entire notion that past retirement portfolio trajectories meaningfully informs the risk of future ones is a case study in the subject of dangerous falsehoods. The deep past can inform the present, but old words work better than historical market returns. "Popular delusions and the madness of crowds"..."permanently high plateau"..."irrational exuberance"...
Jim
