On Monday, 14 October, the Nobel Committee announced that Americans Eugene Fama, Lars Peter Hansen and Robert Shiller won the 2013 Nobel in economics “for their empirical analysis of asset prices.”
Their work has been beautifully created and paradigm changing. In the late ’60’s and early ’70’s I well remember the enormous dissatisfaction with Fama’s idea of a “Random walk down Wall Street.” The idea that prices were random in the short run but behaved according to knowable rules in the long run.
Their work provided a way to assign meaning to seemingly disconnected events.
Fama’s short run is much longer than we think. His view was that the period of randomness was about three years long. I have noticed lately that there is a three week randomness, but had forgotten the three year idea.
This randomness period leads me to some questions.
For those of you who don’t know, I am not an economist. That will likely become very clear momentarily. Please help fill in what I am missing where you can.
I think I don’t trust the statistical analysis. For the past five years or so, I have been concerned about what happened November 1994 that made everything different. I found this graph at Macrotrends.
Draw lines through the tops in 1929 and 1965 and through the bottoms in 1931 and 1982 and it becomes clear All of the data from 1913 to 1994 fits inside the tunnel. After 1995 almost none of it does.
Are the pricing fundamentals now that much different than they were?
I have some guesses about the end of 1994. Most of them revolve around Index Funds, ETFs, high velocity trading, internet based, personally managed portfolios and speedier access to financial information that is not contextual. Do the trades now mean the same thing as someone in 1964, buying IBM to reinest dividends and to keep? Do index funds inflate the value of the index by creating artificial demands for the securities therein?
If we wait, we may find that the statistically based material becomes different. It could be that the old fashioned ideas of buying good businesses and sharing in their success becomes fashionable again.
If I were you, I would probably believe that Fama, Hansen, and Shiller have a good handle on this issue and there is a an explanation within their data for the post 1994 period. You might possibly even believe that there is credibility in using all of this data to estimate the range of the future results.
For me though I am skeptical.
Don Shaughnessy is a retired partner in an international accounting firm and is presently with The Protectors Group, a large personal insurance, employee benefits and investment agency in Peterborough Ontario.
firstname.lastname@example.org | Twitter @DonShaughnessy | Follow by email at moneyFYI
Hmmm one might think back to your post of last week regarding the “judicious” use of selected endpoints on time series. Always ask for x years of data points beyond each end of the data set, might be your lesson du jour. On the other hand, there really are rare but observable “breaks in the data generating process”. One of many cool aspects of the prize is the dialectic among the recipients vs the usual “team” award.
Well, Don. Next time you find yourself in an elevator with Stephen Harper, you will know what to ask him. No awkward moment of silence there….