Wall Street Debunked
Book review: "Debunkery: Learn It, Do It, and Profit From It"
BY Bruce Grantier | March 23, 2011
In his book, “Debunkery: Learn It, Do It, and Profit From It – Seeing Through Wall Street’s Money-Killing Myths” author Ken Fisher looks at commonly held but mistaken investment beliefs, hence its title. It debunks these myths very convincingly, with logical arguments supported by extensive data. The author, Ken Fisher, is founder, chairman, and CEO of Fisher Investments. He is well known as a 26-year contributor to the Forbes magazine’s “Portfolio Strategy” column and is a New York Times bestselling author. His books include The Only Three Questions That Count and The Wall Street Waltz – both of which I have read and would also recommend. The book has five sections, which group 50 investment-related myths into similar categories.
Overall, the book is the well-researched, convincingly and intelligently written, and thoroughly enjoyable to read. I hope this brief summary of debunked myths serves to pique the reader’s interest and challenge your understanding of commonly held beliefs (as it did mine). I have selected a few key sections and insights to discuss and summarize below.
Myths about safety
The first myth he debunks is that ”bonds are safer than stocks.” Fisher shows, using rolling three-year periods over 1925 to 2009, that bonds have more negative periods than stocks. The volatility in stock returns is obviously larger, but higher stock returns easily compensate– especially in real terms, which is critical for retirees.
Another myth – “well-rested investors are better investors”. Fisher points out that, over 30-year rolling periods since 1925 (54 periods) stocks beat bonds in all periods; over 20-year rolling periods, stocks beat bonds in 62 out of 64 periods; over 30-year periods, stock returns are 4.8 times better than bonds; and over 20-year periods, stock returns are 3.7 times better. Finally, for those 20-year periods, in the two out of 64 periods when bonds beat stocks, the bond returns were only 1.1 times better than stocks – nothing compared to the cost of forgoing the much better stock returns in the other 62 periods.
”Retirees must be conservative” is another preconception he challenges. Recent US IRS actuarial assumptions give today’s average 65-year-old retiree a life expectancy of 20 more years (30 if that person is in the top 25% of retirees.) This is due to better fitness, activity, nutrition, technology, and innovation – trends which will likely persist.
Fisher also tackles the misconception that investors should expect average returns. The reality is that normal returns are extreme. Using the same data range (1925-2009), he shows the frequency of annual returns is less than 0% 29% of the time; 0-20% 33% of the time; and greater than 20% 38% of the time. Further, while annual returns below -30% occurred only 4% of the time, returns above +30% occurred 21% of the time (on average one in five years). Earning equity-like returns requires accepting downside volatility – especially important for DC plan members with life expectancies over 20 years.
Fisher also debunks the myth that “beta measures risk.” In CAPM, beta is often interpreted as a measure of risk. Ken Fisher has some very good company in debunking beta’s role as a measure of risk. His views are coincident with Fama and French in that betas are unstable (high-beta growth stocks disappoint and become low-beta value stocks, etc.) Hence value stocks have outperformed growth stocks over the long term.
Another myth involves equity risk premiums (ERPs) and forecasting future returns with ease. As he points out, ERPs are too variable to be useful in forecasting although are often taken quite seriously. Fisher shows the eight ERPs by decade from 1930 to 2010 using stocks vs. 10-year Treasuries. The average has been 4.4%, while the range was -7.6% (that is -7.6% p.a. for 10 years) to 18.9%.
The Boomer myth
”Don’t fight the Fed” is another investment chestnut. Fisher shows the results of US and MSCI World returns after 12, 24, and 36 months post the commencement of nine sustained tightening cycles since 1970 to date. The results show positive equity returns for most periods – typically seven to eight out of the nine tightening cycles produced very respectable equity returns for both US and World. At the same time, he tackles the myth that retiring Baby Boomers represent the end of the world. He argues that Boomers have a long time horizon, the Boomer bubble moves at a glacial rate, and ultimately, all this is well discounted by equity markets.
Myths from the recession
Fisher doesn’t recommend that investors pray for budget surpluses. The evidence in this chapter is convincing. Government surpluses and deficits as a percentage of GDP are tracked from 1947 through 2009. Peaks and troughs are indentified and the ensuing 12-, 24-, and 36-month equity market returns are calculated. It turns out the average 12, 24, and 36 months equity returns following deficit peaks are resoundingly better than those following surplus peaks. The reason, Fisher points out, is simply the simulative effect on consumer and business of government deficits, and the opposite effect of surpluses.
He also tackles the myth that “high unemployment is a killer.” The reality is unemployment lags the stock market – usually by a lot. The lead of stocks is illustrated in data from 1929 through 2009. Twelve month stock returns measured from six months prior to peaks in unemployment are twice as good as twelve month stock returns measured from the actual peak in unemployment.
Finally, Fisher refutes the commonly held belief that “consumers are king.” It’s still worth noting as the media endlessly proclaims the US consumers’ demise. The fact is that while consumer spending is currently about 71% of US GDP, 68% of consumer spending is on services, which is very stable. The durable goods sector, it is true, suffers during recessions. However this sector is about 10% of GDP and only half the size of non-durable goods spending, which – like services – tends to be fairly stable as well. The sector which accounts for the biggest swings in GDP is business investment spending – both inventory adjustment.
It’s a Great Big World (global investing)
”Who needs foreign?” Is another myth Fisher takes to task. Over 1970 to 2009, US stocks have returned 10.0% annualized vs. 9.4% for EAFE (total return). The leadership has traded between the two irregularly and for irregular periods – at times fairly long. However owning both stabilizes returns, and, while not trying to time between the two, either may opportunistically offer better value at times.
He also challenges the myth that “big debt is national debt,” comparing US and UK public debt to GDP and making the point that UK debt to GDP has been very much higher than the US in the past 200 years. He also looks at the assumption that “America can’t handle its debt in a brief chapter that offers a good perspective on US Federal debt over time and in the global context. It shows Federal interest payments as a percentage of GDP from 1952 to 2009. Despite the large increases in debt, lower interest rates have offset almost entirely, leaving Federal interest payments surprisingly only slightly higher than the historic levels and much lower than the 1980s and 1990s. Since global interest rates have tended to move in unison, any rise in rate would affect other countries similarly.