I wouldn’t, Evolution.

I think the insurance idea is too complicated and too costly and not necessary.

Stock returns are to a large extent predictable at 10 years. They are highly predictable at 15 years. Yes, there are some circumstances in which unpredictability becomes an issue. But circumstances in which there is no way to deal with the unpredictability at least somewhat effectively (and the insurance idea does no better than that) are rare.

At low valuations all possible outcomes are good even at five years out. There is unpredictability in the sense that it could be that your five-year return is going to be amazing and it could be that it is only going to be solid. So long as you are not counting on anything more than solid, you are set.

At moderate valuations, this is not entirely so. But you still can plan for a worst-case scenario and thereby protect yourself from unpredictability. The worst-case scenario for the five-year return for a purchase of an index fund made at moderate valuations would be a negative number. But so long as you go with a low enough stock allocation so that that negative short-term return does not wipe you out, you are okay buying some stocks (those with time-frames of 10 years or more could of course go with higher allocations — we are here discussing only those who can not afford even five years of negative returns). The key is getting the stock allocation down to where the worst-case scenario is not a killer for you.

At high valuations, the possibility of an extreme negative outcome are sky high. The sensible choice here is not to go with a high stock allocation and then pay for insurance. The sensible choice (in my view!) is to go with a very low stock allocation. When super-safe asset classes are offering better returns than stocks, why not just invest in them rather than pay fees for protection from the mistake of buying overpriced stocks? Avoid the mistake and you avoid the need to pay for the protection!

80 percent of what determines success for the typical investor is getting the stock allocation right. The biggest factor determining what allocation you should be going with is the price at which stock are being sold at the time you are thinking of buying. Once we all get in the habit of never, never, never buying stocks without looking at price (that is, never investing passively), most of the risks of stock investing go “poof!”

At the top of the bubble, the most likely 10-year return on stocks was a negative 1 percent real annualized . The guaranteed 10-year return on inflation-protected bonds was 4 percent real annualized. That’s a differential of 5 percent per year for 10 years. Do the math and you see that the Passive Investor loses 50 percent of his starting-point portfolio value because of his unwillingness to consider price when setting his stock allocation. There is no insurance that you can buy that is going to come even close to making up for the loss you suffer from investing passively.

Risk is Passive Investing. If you don’t like risk, just don’t invest passively. Sometimes the most simple and obvious solution is the best solution.

That’s my take, in any event.

Rob

I hear this sort of statement frequently. I have never been able to find anyone who could offer support for it. I now view it as a marketing slogan for The Stock-Selling Industry, nothing more.

If you buy a broad index fund, you are buying a share in the productivity of the U.S. economy. The U.S. economy has been sufficiently productive for many, many years now to support a 6.5 percent average annual return for stocks. What’s so unpredictable about that? You know what you are going to get going in and then you get it.

What throws people is their belief in Passive Investing. The Stock Selling Industry has been telling us for years that it is not necessary to look at price when buying stocks. This is of course nonsense (effective from a marketing standpoint, but nonsense all the same). You obviously can’t get 6.5 percent in the long term if you pay double or triple for the stocks you buy. But what would you expect?

We have historical data going back to 1870. If you look at the record, you will see that the return on a stock investment has been largely predictable for that entire time-period for those willing to look at valuations before putting money on the table. It is only the marketing benefits that go to The Stock Selling Industry for telling us that we don’t need to look at price that makes long-term stock returns unpredictable. (I agree that short-term returns are unpredictable, but who cares?)

Rob