These experts think retirees should time the market

Ask your typical financial advisor if retirees should try to “temper” the stock market and they’ll look at you like you’ve just grown a second head.

Conventional financial advice these days is that no one should try to time the market, least of all security-focused retirees.

But GMO white shoe Boston money managers – most famous for their founder Jeremy Grantham and his terrifying jeremiads – are taking the other part of the discussion. And they are right.

But first, let’s clarify what we are talking about and what we are not.
“Timing the market” is an umbrella term which means trying to reduce your exposure to the market before it goes down and increase it before it goes up. It covers a variety of strategies, tactics and timing.

At one end of the spectrum are people looking to trade daily or to enter and exit the market for short periods of time. They often use technical analysis, “charts” and various other forms of financial astrology to try to guess when the market is about to change. This is generally a very unprofitable business, with the exception of brokers who handle trades on commission.

At the other end of the spectrum are people who move slowly and think long term. They don’t go in and out for days, weeks, or even months. They can increase or decrease their equity market exposure from one year to the next, depending on whether they believe stocks (and bonds) are overvalued relative to their fundamentals, or undervalued, or in response to economic or political risks.

People doing this may not even think of what they are doing as “timing”. They may actually oppose the term, with its dodgy day trading connotations. But anything that involves temporarily cutting or increasing exposure to the stock market, in the hope of profit and in response to economic or market conditions, is a form of timing.
It is of the latter type that we speak of GMOs.

GMO Asset Allocation Co-Head Ben Inker and asset allocation team members James Montier and Martin Tarlie have just released a document that probably messes a lot of feathers. “Investing for Retirement III: Understanding and Dealing with Sequence Risk” argues that retirees can reduce the risk of running out of money by including some market timing in their so-called “glide path”, which is the path through which their portfolio is expected they evolve as they retire.
Right now, the typical advice of the pension industry is that retirees should virtually ignore the temporary market conditions and follow a predetermined optimal “glide path” from risk to safety, from stocks to bonds, as they age. (There has been a lively debate about what that slide path should be like, but that’s another story.)

But as the GM trio points out, these strategies and paths are all logically based on an unspoken assumption: that stocks and bonds are priced “fairly” or (in layman’s terms) “about fair”. This is actually the big unspoken assumption behind many of today’s financial advice: the “expected returns” and “risk” (i.e. volatility) of various assets at any given time are simply based on their average returns and volatility. of the last 20, or 50 or 100 years.

This may end up working in practice – if readers forgive me for using the same line twice in a matter of days – but there’s no real reason to think it works in theory. It was the great Greek philosopher Heraclitus who said that no one can cross the same stream twice, because the second time is not the same stream, and you are not the same person. Why should my expectations of stock market returns over the next 10 or 20 years be based on what happened during the Great Depression, World War II or the 1970s? And why should my expectations of future stock market returns rise the more expensive the stock market gets? If we incorporate all the historical data into the averages, the huge bubble of, say, 1995-1999 actually increased the historical average return of the stock market, and thus increased expected future returns. Yet the common sense response to the craze was to think that the more stocks soared, the lower their future returns. You can’t cash the same check twice.

This is where Inker, Montier and Tarlie come into play. They argue that retirees can reduce the risk of running out of money by “buying low and selling high”. When the stock market is expensive relative to fundamentals, they argue, retirees should adjust their equity exposure to the downside. And when the stock market is cheap, they argue, retirees should increase their exposure to equities.

Such advice tends to run counter to modern conventional wisdom, which generally advises people to choose an asset allocation based on our individual circumstances and risk tolerance, and only adapt when these change.

Inker, Montier and Tarlie execute numbers based on a strategy that varies stock market exposure within a 20 percentage point range around a central “glide path”. Using historical data – there’s that problem, of course, again – they calculate that this more than halved the risk of running out of money in retirement even if you were using an aggressive 5% initial withdrawal rate.

The key moment of danger they were facing was the scenario faced by anyone who retired in 1970, probably the worst time, at least financially, to do so. Your 1970 retiree stopped earning and started living off stocks and bonds just as they both entered a decade of massive volatility and terrible losses. Stocks plummeted in the middle of the decade. Bonds just died slowly, lagging behind inflation year after year.

A 1970 pensioner was washed.

But someone who reduced their equity exposure in the early years, when stocks got expensive, and increased it in the mid-decade, when they got really, really cheap, did a lot better.

The three GMOs argue that a great difficulty is going against our instincts: it is very difficult, even emotionally painful, to go against the herd and buy low (when everyone is gloomy and the natural instinct is to sell) and sell high. (when everyone is bullish and the natural instinct is to buy).

But there is also a second problem with this strategy: it is very difficult to find a reliable indicator that tells you when things are objectively cheap or expensive. So it will be incredibly difficult for retirees to know when they should buy more stock and when they should sell.

The GMO trio cites the famous “Shiller PE,” a measure popularized by Yale finance professor (and Nobel laureate) Robert Shiller, which compares stock prices to average corporate earnings over the past 10 years. The problem with the Shiller PE is that while it proved to be a great long-term investment guide for the US stock market from 1880 to 1990, it has been of little use since then. The Shiller data would have kept you out of the US market for most of the past 30 years. There is that philosopher Heraclitus again. For some reason, we are not crossing the same stream.

There are no simple answers. But these experts raise a very positive point: Most of these passive “flow paths” for retirees are based on the questionable assumption that assets are generally “reasonably priced”.

Investors in general, including retirees, can certainly help themselves at least by trying to evade the most obvious risks. The most dangerous and insane rating bubbles are usually the easiest to spot. I really can’t think why a regular retiree, armed only with common sense, would want to invest in a skyrocketing Nasdaq bubble, or, say, “inflation-protected” T-bills that actually guaranteed you to lose your power to do so. ‘purchase.

Yet in the past year, sadly, many probably did both, on the advice that markets are always reasonably priced. The painful losses since then shouldn’t have come as a surprise.


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