Should You Buy Index Funds Now, in an Overvalued Market?
Summary
TLDRThis video discusses the high valuation of the stock market, currently reflected in a Shiller PE ratio of around 35, which is double the historical average. It explores the dilemma for passive investors, referencing Jack Bogle's philosophy on the importance of long-term, consistent investing despite market fluctuations. The video emphasizes the historical success of dollar-cost averaging into low-cost index funds and the pitfalls of trying to time the market, advocating for a steadfast investment strategy based on fundamentals rather than speculation.
Takeaways
- đ The current Shiller PE ratio is around 35, which is double the historical average, indicating an expensive stock market.
- đ In 2009, investors were willing to pay only 14 times the earnings, compared to the current 35 times, showing a significant increase in market valuation.
- đ€ The historical average may not apply to modern times, but a Shiller PE of 35 is still the third highest in history, suggesting potential risks.
- đĄ Jack Bogle, the founder of Vanguard and known as the grandfather of passive investing, advocated for simply tracking the market throughout his life.
- đŁ In a 1997 speech, Bogle addressed investing during an overvalued market, emphasizing that fundamentals should drive returns over speculation.
- đ The 'Magnificent 7' tech companies have risen to high valuations based on future promises that may or may not be realized.
- đź Two possible outcomes are presented: a significant market drop to normalize PE ratios or a new era of high valuations justified by exceptional stock returns.
- đ ââïž Bogle's advice is to not attempt to time the market, as no one has been consistently successful in doing so.
- đ° The dollar-cost averaging strategy, used by passive investors, inherently protects against high prices by buying more shares when prices are low and fewer when they are high.
- đ Despite the discomfort of investing when the market is high, the long-term benefits of consistent investing in low-cost index funds have proven successful historically.
- đ It's crucial for investors to establish a clear, achievable plan that accounts for their financial situation, risk tolerance, and investment horizon.
Q & A
What is the current Shiller PE ratio mentioned in the script, and what does it indicate about the stock market?
-The current Shiller PE ratio mentioned is around 35, which is roughly double the historical average. It indicates that investors are willing to pay 35 times the earnings of the stock market to own it, suggesting that the market is quite expensive compared to historical standards.
What is the historical average Shiller PE ratio, and how does it compare to the current ratio?
-The historical average Shiller PE ratio is about half of the current ratio, which is around 35. This comparison shows that the stock market is significantly more expensive now than it has been on average in the past.
What was the Shiller PE ratio during the 2009 financial crisis, and how does it reflect investor sentiment at that time?
-During the 2009 financial crisis, the Shiller PE ratio was around 14, reflecting that investors were much more cautious and only willing to pay 14 times the earnings of the stock market, compared to the current ratio of 35.
Who is Jack Bogle, and why is he considered the grandfather of passive investing?
-Jack Bogle is the founder of the Vanguard Group and is known as the grandfather of passive investing because of his advocacy for tracking the market through low-cost index funds. His approach has contributed significantly to wealth generation worldwide.
What was Jack Bogle's advice on investing during an overvalued market in his 1997 speech?
-In his 1997 speech, Jack Bogle advised that in the long run, fundamentals drive returns, not speculation. He highlighted the importance of focusing on dividend yields and earnings growth rather than betting on higher valuations.
What are the two extreme possibilities Jack Bogle mentioned regarding the market's future performance?
-The two extreme possibilities mentioned by Jack Bogle are a market drop of 30-50%, which would lower the price-earnings ratio to a more normal level, and a new era where stock returns average 15%, justifying today's price levels with high valuations.
What is the main reason why investors should not try to time the market according to Jack Bogle?
-Jack Bogle stated that no one has ever been successful in timing the market, and he does not know anyone who knows anyone who has been successful at it. This suggests that trying to time the market is a futile endeavor.
What is the significance of dollar-cost averaging in a passive investing strategy?
-Dollar-cost averaging is significant in a passive investing strategy because it allows investors to buy a fixed dollar amount of shares at regular intervals, regardless of market conditions. This approach naturally leads to buying more shares when prices are low and fewer when prices are high, reducing the impact of market volatility.
What is the average annual return of the S&P 500 since 1957, and why is it considered a strong long-term return?
-The average annual return of the S&P 500 since 1957 is 10%. This is considered a strong long-term return because it significantly outperforms other traditional investments like savings accounts, gold, or bonds.
What is the key to successfully implementing a passive investing strategy over the long term?
-The key to successfully implementing a passive investing strategy over the long term is to set up a plan that works specifically for the individual investor. This includes determining a comfortable savings rate, an achievable investing schedule, and a mental commitment to the long-term strategy without being tempted to make adjustments.
Why is it important for passive investors to have a plan that accounts for their personal circumstances?
-It's important for passive investors to have a personal plan because it helps ensure that they invest amounts they can afford without having to sell during market downturns. The plan should consider factors like the investor's time horizon, resources, income needs, and risk tolerance to ensure the strategy is sustainable and stress-free.
Outlines
đ Stock Market Valuation and the Impact of AI Hype
The script discusses the high valuation of the stock market, driven by the hype around AI, and compares current Shiller PE ratios to historical averages. It points out the difference in investor sentiment between 2009 and now, highlighting the risks of high market valuations similar to those before the 1999 and 2021 market downturns. The video aims to explore the strategy for passive investors in such an overvalued market, introducing Jack Bogle, the founder of Vanguard Group, as a proponent of long-term, fundamental investing. The script also contrasts the current speculative market with the historical importance of fundamentals in driving returns.
đ« Avoiding Market Timing and the Wisdom of Consistent Investing
This paragraph emphasizes the futility of trying to time the market, citing Jack Bogle's view that no one has been successful at it. It advocates for sticking to a passive investing strategy regardless of market conditions, using the example of a study showing that those who tried to time the market earned significantly less than those who invested consistently. The paragraph also touches on the importance of a long-term approach, owning the entire market through index funds, and the benefits of dollar-cost averaging, which naturally buys more shares when prices are low and fewer when they are high.
đŒ Creating a Sustainable Investment Plan for Long-Term Success
The final paragraph focuses on the importance of establishing a personalized and sustainable investment plan to implement a passive investing strategy effectively. It stresses the need to understand one's financial capacity, investment timeline, and risk tolerance. The speaker advises against making hasty decisions based on market fluctuations and encourages sticking to a plan that accounts for personal circumstances. The paragraph concludes by reiterating the importance of investing consistently and not being swayed by short-term market volatility.
Mindmap
Keywords
đĄShiller PE
đĄGrowth Investor
đĄValue Investor
đĄJack Bogle
đĄPassive Investing
đĄSpeculation
đĄFundamentals
đĄDollar Cost Averaging
đĄAsset Allocation
đĄMarket Timing
đĄInvestment Plan
Highlights
The current Shiller PE ratio is around 35, roughly double the historical average, indicating a potentially overvalued stock market.
Investors are currently willing to pay 35 times the earnings of the stock market, compared to 14 times in 2009 post-GFC.
Despite arguments that historical averages may not apply to modern times, a Shiller PE of 35 is the third highest in history, after 2021 and 1999.
Jack Bogle, founder of Vanguard and known as the grandfather of passive investing, advocated for tracking the market throughout his life.
Bogle's 1997 speech on investing during overvalued markets is eerily relevant to today's conditions, emphasizing the risk of speculation over fundamentals.
The Magnificent 7 companies have risen to high valuations based on future promises that may not materialize, contrasting with Bogle's fundamentals-focused approach.
Bogle suggests two outcomes: a significant market drop to normalize PE ratios or a new era of high valuations justified by exceptional stock returns.
Investors face a dilemma between continuing to invest in an overvalued market or pausing until valuations normalize.
Bogle's advice against market timing is underscored by the lack of success among those who attempt it.
Dollar-cost averaging (DCA) is a passive investing strategy that mitigates the impact of market highs and lows by investing fixed amounts at regular intervals.
The S&P 500 has historically provided an average annual return of 10% since 1957, illustrating the benefits of long-term passive investing.
Bogle emphasizes the importance of owning the entire market through index funds and holding them indefinitely, regardless of market fluctuations.
Investors should not alter their passive investing strategy based on market conditions; consistency is key to long-term success.
Studies show that investors who frequently adjust their portfolios tend to underperform the market.
Bogle stresses the importance of having a clear, achievable investment plan that considers personal financial goals and risk tolerance.
An investment plan should include a defined savings rate, investment frequency, and a long-term commitment to avoid emotional decision-making.
Bogle's philosophy of 'buy and hold forever' requires an initial correct investment with an appropriate asset allocation suited to individual circumstances.
Passive investors should focus on setting aside money they won't need for decades and resist the urge to adjust their portfolio based on short-term market movements.
Transcripts
so it's no secret that on the back of
the Magnificent 7 all this hype around
AI the stock market has gotten pretty
darn expensive now of course we can
argue that point depending on whether
you're a growth investor or a value
investor but just objectively we're
currently staring down the barrel of a
Shiller PE of around 35 and that's
roughly double what the historical
average is and what that means is that
investors right now who are buying into
the market are willing to pay 35 times
the earnings of the stock market just to
own it if you rewind back to 2009 for
example after the GFC in investors that
were scared out of their wits were only
willing to Fork out 14 times the
earnings now there's probably an
argument to be made that the historical
average doesn't quite apply to modern
times but still having a look at the
shilli here it seems reasonably obvious
that 35 is still pretty high in fact
it's the third highest point in history
behind 2021 and 1999 and we all know
what happened in both of those occasions
but this begs the question if you're a
passive investor that being someone who
just buys index
what do you do is it a wise idea to
still be putting lots of money into the
market when it's clearly quite high is
it better to reduce the amount of money
you're regularly investing or even stop
until the market and the shil normalizes
a little bit well that's what I want to
cover in this video and to help answer
those questions I want to introduce this
guy he is the grandfather of passive
investing Mr Jack Bogle and the reason
why you might know him is because he is
the founder of the Vanguard group it's
kind of sad when we talk about great
investors of history we talk about Ben
Graham and Warren Buffett and Charlie
Munger and so on but Jack Bogle really
gets a mention however truth be told he
is probably responsible for more wealth
generation around the world than any
other investor he sadly passed away in
2019 but all throughout his life he was
a huge Ambassador for simply tracking
the market and what's interesting is
back in 1997 as the stock market was
forming into one of its biggest ever
bubbles Jack actually gave a speech on
investing during overvalued market and
to be honest it's kind of crazy how well
that lines up to today's conditions in
short it seems to me that speculation
betting on higher and higher valuations
is in the driver's seat investment
betting on the fundamentals of dividend
yields and earnings growth is in the
back seat probably even in the rumble
seat but when speculation drives stock
returns in the short run while it drives
stocks returns in the short run it's the
crystal clear lesson of history at least
for the past 200 years that in the long
run fundamentals Drive returns and just
like he was saying in the runup to the
tech bubble we too face the situation
today where a lot of the stock returns
we're seeing are based on speculation as
opposed to fundamentals I mean we've
seen the Magnificent 7 rise to
incredible valuations based on a future
promise that we're unsure will eventuate
we're seeing meta and Google at a PE of
27 Apple at 29 Microsoft at 37 Tesla at
45 Amazon at 50 and Nvidia at 62 but as
Jack notes in the long run it's always
the fundamentals that drive returns so
that leaves us with two possible
outcomes a world where AI lives up to
the hype and earnings rise to justify
the new valuations or a situation where
AI fails to deliver in which these big
stocks that support the market get
repriced and funnily enough that's
basically the exact point Jack talks
about in this next clip so that tension
has to be resolved let me give you two
extreme possibilities one a market drop
of 30 5% this would lower price earnings
ratio to a more nor ratios to a more
Norm normal level of about 13 times this
is hardly a doomsday scenario two we're
in a new era in which stock returns
average 15% in short a new era of Boom
times and high valuations that would
justify today's price levels now of
course it could happen but I wouldn't
bet the ranch on it the US Stock Market
however seems to be betting the ranch on
it it's priced I think for the best of
times and only for the best of times is
this speech actually from 1997 it's
actually a little bit scary how well all
of that lines up to what we see today
and I think many investors would agree
with Jack's statement today the stock
market is pricing in the best of times
and only the best of times and while The
Best of Times May eventuate Jack
certainly wouldn't go betting the ranch
on it but with that said that obviously
makes it a lot harder psychologically to
put money into the market right now
right for example I am in part a passive
investor and in part an active investor
but when it comes time to add more money
into my chosen ETFs on my dollar cost
averaging plan I always have this
Grimace when the market is at all-time
highs there's just something about it it
just doesn't feel great sinking a lot of
money into your long-term Investments
when you kind of know in the back of
your mind that the market is pretty
expensive it's kind of like paying full
price for a bit of furniture a few weeks
before Black Friday you feel bad paying
full price knowing a sale will like come
along in the not too distant future so
with that setup that leads us to the
question should we actually be buying
our Market tracking ETFs when the market
is at all-time highs should we try and
time the market just a little bit in
this case well this is what Jack had to
say all the way back in 2001 I don't
know anybody who has ever been
successful in uh timing the market and I
don't even know anybody who knows
anybody who has ever been successful in
timing the market so if you want the
short answer no you should not at all
deviate from your passive investing
strategy just because market conditions
have changed in the same way that you
wouldn't sell your Investments if all of
a sudden the market fell 30% tomorrow as
Buffett would say our favorite holding
period is forever the more you start
messing around with your Market tracking
Investments the higher the probability
that you'll lose that's quite literal a
study way back in 2000 studied 664652700
earned an annual return of 11.4% while
the market returned
17.9% annually the truth of the matter
is if you start messing around with your
portfolio you will likely lose out last
month on Le Riser you summed up your uh
investment philosophy is buy everything
and hold it forever do you still
subscribe to that uh in in light of what
the market has been doing or would you
unload some things now no I I my my
theory is is not subject to the ups and
downs the um paginations of the stock
the unpredictable paginations of the
stock market it's painful to do but I
think the idea of owning the stock
market is the best approach to equity
investing and perhaps I didn't make that
thoroughly clear there and while Jack is
of course a little bit biased on the
topic he's not wrong the idea of dollar
cost averaging into lowcost index funds
that track say the S&P 500 and then
consistently buying them and holding
them over a long period of time and
never selling has proven to be an
exceptionally successful strategy over
recent history I mean since 1957 which
is the year that the S&P 500 adopted its
500 stock structure well that index has
returned an average of 10% per anom
that's a phenomenal long-term return
considering what you might get elsewhere
in say savings accounts gold or bonds
and I will say despite it feeling
painful to buy the market when it's
visibly High remember there is actually
an inbuilt mechanism into the dollar
cost averaging strategy that protects
investors against really high pric
prices remember the dollar cost
averaging strategy which is the approach
implemented by almost all passive
investors is the process of buying a
fixed dollar amount of shares in a
lowcost market tracking index fund and
then repeating that purchase at fixed
time intervals over the course of your
investing career for example you might
choose to invest $1,000 every 3 months
and as the quarters go by you just keep
showing up well as I said this has an
inbuilt mechanism to protect you when
the market is high say the market
crashes and the ETF shares you're
looking at buying are now $100 each well
in that case with your $1,000 you'll buy
10 shares but then what if the market
goes on a rampage and the ETF Shares are
soon worth $200 well guess what now that
the market is expensive you're only
going to buy five shares when the market
is high the strategy keeps your buying
low and when it's cheap you're naturally
going to load up the truck it's genius
so not at high prices you should not
abandon your tried andrue passive
investing strategy it's much more
important to stay in the habit of
constantly investing just showing up
Rain hail or shine if you are not a
speculative investor if you're a
longterm investor and yet there are
these speculative investors buffeting
your returns about what should your
reaction be should be you be doing
anything differently I think basically
you should not be doing anything
differently I mean investment is a
pretty simple thing investment is owning
businesses or I would say being an
inveterate Index Fund person owning all
of American Business owning every
company in America letting capitalism do
its work uh those companies will grow at
probably around 7% a year they'll pay
you about a 2 and a half somewhat lower
than history but a 2 and a half%
dividend yield and that should over time
bail you out of anything that happens
because of the wild swings I mean if you
visualize investment as growing in kind
of a steady line which it does and
visualize the crazy Market as being all
these Jags up and down around this
steady line upward upward all always
upward I think then you've got to say I
know I'm not smart enough to get out the
high I know I'm not smart enough to get
back in at the low so I'm just going to
stay the course as we would say at
Vanguard and hang on through all that
and importantly if I'm trying to
accumulate money for retirement or to
buy a home or to educate my children
what you want to do is keep investing
keep investing rain hail or shine
passive investors are better off if they
just keep going without messing with
their strategy but there is one key to
actually putting this Theory into
practice and this gets glossed over a
lot because it's not as glamorous is
showing a compounding chart or talking
about how soon you could be a
millionaire and the point is finding the
right plan for you while we know we buy
the market and we buy it consistently
it's really important that you actually
nail down your plan into hard numbers
what's your current savings rate what
percentage are you willing to devote to
investing how much money will that mean
that you save each fortnite how
frequently are you going to invest that
money how do you make sure you won't
fall off the train as Jack is about to
discuss you need to really nail down an
achievable plan for you to ensure you
can implement this strategy over the
long term for yourself but I think the
idea of buying and holding forever and
not trying to make adjustments requires
that you've gotten it right in the first
place you can only hold tight if you've
bought right if you will and that is to
say have an asset allocation that has
something to do with how how many years
you have to accumulate money how much
resources you have at stake how much
income you need and how much courage you
have to ride out the paragr naations of
the market so you've got to take all
that into account from that simple
statement and I know it sounds boring
but in my experience you really do have
to come up with a plan that works for
you specifically to be able to execute
the strategy successfully over a long
period of time as Jack spoke about in
the clip you have to understand how much
you can comfortably set aside for
investing without something coming up
that could force you to sell your
Investments you have to know how long
you plan to be in the market for example
you wouldn't be dumping large sums into
an overvalued Market if you looking to
retire in 2 years and then from there
you also have to know yourself how
comfortable are you having money at
stake if you're someone who frequently
stresses about your Investments and has
a tendency to make snap decisions then
maybe the stock market isn't for you
maybe you might prefer government bonds
or perhaps paying down your mortgage
instead a lot of times with passive
investing the investor is Their Own
Worst Enemy so I'm definitely big on set
setting up a plan that genuinely works
for you that isn't stressful to continue
with ultimately for this strategy to
work you need to set aside money that
you won't need to touch for decades you
need to invest often and you mustn't be
tempted into messing around with your
portfolio so you need to understand what
amount you can easily set aside what
investing schedule you can stick to and
you need to mentally commit to the
longterm to ensure you don't end up as
just another failed investor remember
that step from before the studies show
the more you mess around with your
Investments the more likely you are to
lose but if you're relatively young if
you are investing money that you don't
need and you're properly spread across
the market through something like a
market tracking Index Fund then you can
be reasonably confident as Jack says
that you've bought right so that's the
deal with index funds when the market is
at all-time highs now if you're
interested in getting the full breakdown
in a simple step-by-step manner
definitely check out stock market
Investing For Beginners over on new
money education that is a full in-depth
course will get you up to speed on the
passive investing strategy no matter
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