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Stock Market Jeremiah

In the years since Alan Greenspan first assessed the mood of the stock market as "irrational exuberance," the markets have exploded upwards, reaching levels that many considered unthinkable just a few years ago. These years of market mania are the focus of Robert Shiller's Irrational Exuberance. Shiller identifies the many factors and feedback loops that have aligned themselves to create the biggest bull market in history. In this interview with, Shiller talks about the highly visible technology of the Internet, the book Dow 36,000, and his advice on where investors may consider putting their money. When Alan Greenspan made his "irrational exuberance" remark in 1996, the NASDAQ was at 1,200 and the Dow was at 6,500. Since then, these markets have tripled and doubled respectively. If the markets were irrational then, how would you characterize them now?

Robert Shiller: This is the fundamental dilemma. People who said that have been discredited. Fortunately for me, I have tenure. Another person who was at the same meeting when Greenspan made those remarks and who was a bit bearish in 1996 lost his job -- at least that's what the newspapers reported -- because he was too bearish. Do you think people who said that are discredited by what has happened, or are they even more right? That's a good question. It's hard not to feel uneasy about the markets these days, but then I'm glad Mr. Greenspan is not my stock broker. So what's the big difference between what moves markets today and what moved markets, say, 10 years ago?

Shiller: I like to stress that it isn't one thing, because that's not the way history usually works. Usually it's a combination of factors. But if you wanted to name one thing, of course, it would have to be the Internet. The Internet is a remarkably visible technological innovation compared to something like nuclear power, which we don't ever see. We're working on the Net all day, and that visibility encourages people to have exaggerated hopes. It's just amazing how much time people spend on the Internet. One idea that keeps surfacing these days is that of "old economy" stocks versus "new economy" stocks, and these new stocks should be valued differently. Wasn't this same kind of thinking prevalent in the '20s as people were valuing stocks then?

Shiller: Yeah, and the big thing then was radio. That was another example of a new technology that was incredibly vivid. The first radio stations appeared in 1920, and then expanded rapidly. And just as with the Internet today, you could spend hours every night listening to the radio. And also the automobile industry was taking off at that time. So you had another highly visible technological phenomenon. Let's talk about baby boom investing. Harry Dent has made a career out of arguing that as baby boomers hit their peak spending years, the market's just going to keep going up and up. What's right about this thinking and what's wrong about it?

Shiller: There are different versions of the baby boom theory. I looked at Harry Dent [see The Roaring 2000s and The Roaring 2000s Investor]; he's not entirely clear. One version of his story is that the baby boom makes for a prosperous stock market because baby boomers are in their peak earning years. People are usually most productive in their 30s, 40s, and 50s, and we would expect to see productivity gains at that time. But that isn't very convincing when it comes to explaining the current market, because it's such a secular thing. The baby boom has been with us for decades, and the recent market increase has been sudden and spectacular.

Another version is that baby boomers are suddenly planning for their retirement, and therefore they're bidding up stocks. There could be some truth to that, but why so suddenly? I think the baby boom is a factor and what Harry Dent likes to emphasize is that down the road, people are going to be selling these stocks and the market will go down… He even puts a date on it.

Shiller: He puts a date on it. But again, there are so many other things going on that it's all very uncertain. We don't even know how much stock people are going to sell. A lot of people bequeath them to the next generation, and then it takes another 10 or 20 years before they get sold.

Nevertheless, I like to list the baby boom as a factor. I think Dent is on to something. James Glassman and Kevin Hassett are also proponents of high stock prices. Their book Dow 36000 argues that stocks have simply been undervalued up to this point, and in the next few years we'll see their values increase dramatically to what they should be. Do you agree with this assessment?

Shiller: I debated them on television before the book came out, and asked them if it was too late to change the title of their book to Dow 18000. What did they say?

Shiller: They didn't react very favorably. They're claiming that stocks are not risky, and if that's the case, then why don't people bid their prices up higher? I think there's something wrong with that premise that stocks are not risky. People are overly influenced by a hundred years of U.S. data. To most people, a hundred years of data seems like, man, that's everything! But it's not that impressive, actually. If you look at other countries, the performance of their markets over a long period hasn't been so uniformly good and there's no reason to think that it has to be good.

While I think the market may have been a little undervalued in the past, investing in stocks today is being a residual claimant. You're the guy who takes the loss if there is one. So I just don't see the idea that people are going to view them as riskless in the near future. Right now you can buy indexed bonds that are perfectly riskless, indexed to inflation, yielding over four percent. And to say that the stock market, which is yielding 1.2 percent on dividend price yields, should go up even more seems off-base. So, what's a prudent investor to do? Had you listened to Mr. Greenspan in 1996, you would have missed out on the greatest bull market in history…

Shiller: I know. There is a little bit of uncertainty about any of this. In the last chapter of the book, I talk about the forces that are still propelling the market up. The Internet is still growing rapidly. More and more people are getting logged on. And online trading is growing rapidly. So the market could continue to go up for some time. But I take the long view that the market can't sustain these levels. I would avoid the high-tech craze, and stay more in old-economy stocks and real estate and bonds. The other thing I would advise people to do is to save more. People are not saving. They imagine that they've got this enormous wealth, but it's ephemeral.

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