The Nobel Prize winners matter this year
Pensions are impaired if their research is ignored
If The Economist publishes a headline saying: “Investors can profit from the insights of this year’s Nobel prizewinners in economics“, everyone relying on pensions should take notice.
First — and most likely inspired by Nobel Laureate Eugen Fama — pensions rely on index investments. Second — and most likely inspired by Nobel Laureate Robert Shiller — they rely on professional asset managers that claim to beat the market (often refered to as “alternative investments” or “hedge funds”). Both strategies are wrong and will lower our pensions as the Nobel Prize winners have proven: It is wrong to rely on professional asset managers because they can’t beat the market as Eugen Fama shows. But it is also wrong to rely on index investments because markets are often mispriced as Robert Schiller shows.
So how should we save for retirement?
For this, we have to look at their two findings in more datail: Fama said: “You can’t beat the market because all information is already in current market prices.” On the other side, Shiller said: “The market is often seriously mispriced.” So if both of them are true — and the fact that they share the 2013 Nobel prize for economics is a good reason to believe they are — why then is it impossible to beat the market if it is so often seriously mispriced?
The answer is: Time! In the short run, Fama is correct: You can’t beat the market because it follows unpredictable news. In the long run, however, Shiller is correct: The market is often mispriced and corrects itself to the historic mean eventually. This means:
In the long run, you can beat the market!
What does this mean for healthy pensions? Don’t invest in an index because market prices are wrong more often than not (Shiller). Instead, invest based on company fundamentals such as size and profits. Shiller used such fundamental information to show that markets are often mispriced.
Will you now beat the market all the time?
No. Don’t expect to beat the market every week, every month or even every year (remember Fama). But expect to beat it over 30 to 50 years and end up with a higher pension that you would have if you had given your money to someone else.
Only you can do this. Your pension institution can’t. They can’t do it because they have to report their performance on short time intervals. If they underperform for a couple of periods (they will, believe Fama), they loose their jobs. This means they spend a lot of your money to stay close to the market — be it rational or irrational doesn’t matter (they can’t take into account Shiller).
But you will beat it in the long run if you do it yourself
There is a solution that only you can take: Do your own indexing! Believe Fama and only invest passively without the goal of outperforming the market in the short term. But also believe Shiller and pick your stocks based on fundamental criteria so that you beat the market in the long run.
