By The Money Illusion: One by one, the anti-EMH arguments collapse
This is a really great article and agrees with everything I have been trying to convey for the past six or so years. It’s too bad it’s marred by the last paragraph that detracts from the article.
In the context of the article, the EMH is interchangeable with ‘status quo’.
When I started blogging in early 2009, the anti-EMH forces were riding high. The previous decade had seen tech and housing “bubbles”, there were studies showing that hedge founds and elite college endowments outperformed the broader markets, there was the absurdly high price of Bitcoins, and there were academic studies finding market “anomalies”. In the eight years since, all of these arguments have either mostly or entirely collapsed.
This agrees with an earlier article No paradigm shifts or changes to status quo. From 2009-2012, many economists, journalists, authors, and academics, such as Nassim Taleb, Bill Gross, Mohamed El-Erian, Daniel Kahneman, Dan Ariely, Malcolm Gladwell, Robert Shiller, Nouriel Roubini, and Michael Lewis rose to prominence by predicting a ‘new status quo’ that would replace the ‘old’ one that, in the span of just 18 months, had seemingly imploded. These ‘experts’ made fortunes selling books, speaking engagements, and consulting, purporting to have the ‘answers’.
Between 2006-2012, in the years before, during and shortly after the financial crisis, many ‘pop psychology’ authors and ‘business gurus’ rose to fame by arguing that the financial crisis was evidence of a permanent ‘paradigm’ and ‘status quo’ shift, and that systems and beliefs (such rational/efficient markets) taken for granted before the crisis had suddenly all failed, and that these business authors and gurus had the answers. Examples of such books include Daniel Kahneman’s Thinking Fast and Slow, Dan Ariely’s Irrational Rational, Nassim Taleb’s Black Swan (and others), Richard H. Thaler’s Nudge, Charles Duhigg’s The Power of Habit, Malcom Gladwell’s Outliers, and many more. To list them all would be subjecting myself and the reader to more pain than is humanly allowable.
Here is what they predicted:
A ‘post-America era’, with America being surpassed by Britain and Germany, both of which at the time (2009-2012) appeared to have exited the financial crisis with less damage than sustained by America.
Permanently depressed asset prices
Permanently depressed growth, both in terms of GDP and corporate earnings
A ‘new era’ of fiscal frugality, humility, and sobriety
Here is what actually happened:
Since 2009, America became more important than ever, both as an intellectual and economic superpower, with foreigners flooding America’s most expensive real estate markets and attending America’s most prestigious research institutions, schools, and companies. Meanwhile, Europe, as well as most emerging markets, fell into a permanent slump due to corruption, falling commodity prices, glow growth, and capital outflows. This was not supposed to happen, according to all the experts at the time. The US dollar is at near muti-decade highs and treasury bonds yields very low.
Since 2009, stock and real estate prices have surged, exceeding even the loftiest of expectations. So have corporate earnings. The 2009-present bull market and economic expansion is the longest ever. Given how bad 2008-2009 was, and given all the doom and gloom in the media, such a huge recovery seemed inconceivable. The S&P 500 has gained more between 2009-2017 than it did in the dotcom ‘boom’ between 1995-2000, yet by a wide variety of metrics such as low inflation and strong profits & earnings growth, economic fundamentals are better now then they were in the 80′s and 90′s, yet unlike the 90′s there is much more pessimism. From Post-2008 wealth creation boom: recap and why it will continue:
But is it a bubble, on the verge of popping? IMHO, no. It’s not like the late 90′s, when growth was slowing (the US economy and corporate profits began to sputter by the late 90′s, whereas now growth and profits are rising), inflation was high (interest rates were at 6%! in 2000, versus just .75% now), and valuations were stratospheric (the S&P 500 had a PE ratio of 30+ in 1999, versus just 20 today). In the late 90′s, the Nasdaq 100 had a PE ratio over over 100; today, it’s still in the low 20′s despite surging prices, thanks to huge growth in earnings.
Again, this was not supposed to happen. The experts in 2008 said America would be like Japan, which has been in a bear market since 1990.
Right now, interest rates are just .75% and expected to rise no higher than 2-3% by the end of 2019, versus 6% in 2000. Low interest rates makes stocks more attractive than bonds.
What about QE propping up the stock market and economy? The link between QE and rising stock prices may be spurious. The fed began to taper way back in mid-2013, but the market rallied another 30% in the three years that followed. The market continued to rise after the fed officially ended QE in October 2014. But if the market and economy were entirely dependent on QE, there would have been a bear market and recession in 2013-2014, which obviously there wasn’t. Multinationals such as Facebook, Google, Microsoft, Disney, Nike, Apple, and Amazon are generating billions of dollars every quarter in earnings. The fed balance sheet does not matter and is independent of businesses and individuals that are transacting with each other. The m2 money supply is in-line with historical growth trends.
Following a brief dip in 2007-2009, profits not only rebounded t otheir old highs, but quickly made new highs too. It truly was a ‘v-shaped’ recovery. As shown below, profits resemble a 60-degree angle that began in 2008, interrupting a longer-standing 45-degree trend, instead of the preexisting 45-degree trend continuing:
You can see how abruptly profits surged over the past seven years, at a very steep angle . Between 1958 to 2008, profits grew at about 6.7% a year, but from 2009-2016 (7 full years), grew at 16.5%. The post-2008 expansion is much faster, steeper, and bigger than all the recoveries that followed the recessions of the 60′s, 70′, 80′s ,and 90′s. Even more impressive is how these huge profits coincide with such low inflation, meaning that in real terms these gains are even bigger.
Historically, post-recession earnings recoveries are fastest until hitting new highs, after which earnings growth slows, but this time is different in that earnings have continued to grow at a accelerated rate, long after making new highs.
High-IQ assets and industries such as Bitcoin, web 2.0 valuations, S&P 500, Nasdaq, Bay Area real estate, Manhattan real estate, and Facebook, Google, and Amazon stock keep going up…how long will it last? I predict a lot longer, but others predict collapse. This is Nick Land’s accelerationism unfolding before our eyes, but it won’t end in its self-destruction…it’s amoral and impervious to our wants or beliefs of how the economy ‘should’ be. We may complain about wealth inequality, globalization, and irrational exuberance, but Gnon does not care.
Yet we’re in an era of contradictions. One on extreme there is a sort of utopian tranquility in Silicon Valley, yet a literal culture war is being waged on college campuses. But perhaps what’s most unfair is how this high-IQ wealth and technology boom is juxtaposed with millions of average-IQ Americas who are struggling with weak job prospects, college & credit card debt, and medical expenses. It’s little wonder why, unlike the 80′s and 90′s, there is much less optimism by average people about the economy.
1. Remember those people who told you not to buy Bitcoin at $30 because it was a wildly inflated bubble? They stopped you from becoming filthy rich, as it’s now at over $2400. Yes, it could collapse by 90%, but it would still be 8 times higher than when anti-EMH pundits were calling it a bubble. Alternatively, if 98% of Bitcoin-type investments fell in value to zero, it would still be a good idea to invest in all of them as long as one in 50 went from $30 to $2400. Yes, the anti-EMH argument is that weak—even if they were right 98% of the time on bubbles bursting, they’d be wrong in their broader argument that markets are not efficient.
That’s why the financial media is useless. For every correct prediction about bubble and crisis, they get 99 of them wrong. I would go a step further and say it’s destructive, not just useless, because it convinces people to act against their own best interests. I think Scott gets some of his terminology confused. The EMH prohibits abnormally high returns using timing strategies. It has nothing to do with the total returns of an asset. Bitcoin and the Nasdaq rising have more to do with fundamentals than the EMH.
2. Hedge funds have done poorly since I started blogging (Buffett won his bet that they would not continue outperforming the S&P500.) College endowments haven’t even been able to beat index funds.
#2 and #4 are applicable to the EMH. I agree active management has done horribly, and such poor performance further bolsters the validity of the EMH.
3. House prices are back up to the peak, and NASDAQ is almost 24% above the 2000 peak. In fairness, in both cases the real price remains below peak levels. But there is no longer a serious argument that these markets were “obviously” ridiculously overvalued, especially given that so many other foreign housing markets are now far above 2006 levels. Back in 2002, when NASDAQ was at roughly 1100, people were claiming that 5000, and even 4000, had been an absurdly overvalued level. Now it’s over 6200. And yet most of these pundits seemed to have no problem with a NASDAQ of 1120 in October 2002. Don’t let anti-EMH people tell you how to invest.
This is again more evidence the media is bad for your financial health.
In retrospect, the 2008 crisis, despite all the media hype and doom and gloom, was only a setback for the status quo, which presently is stronger than ever.