Profile Of Robert Shiller: Mr. Bubble
Introduction (Via Yale Alumni Magazine)
In 2000 he said the dot-coms would go bust. Internet entrepreneurs scoffed. In 2005, he said the housing boom would cause a recession. Mortgage lenders laughed. They called him “Mr. Bubble.” Wouldn’t you like to know what Mr. Bubble has to say today?
Robert Shiller and John Campbell ’84PhD created The Chart. It wasn’t especially complicated. It showed average stock prices, relative to corporate earnings, going all the way back to the late nineteenth century. Wall Street analysts produce charts along these lines all the time. The measure is called the price-earnings ratio, and it is the single most common analytical yardstick of the stock market.
The yardstick that Shiller and Campbell created, however, came with a twist — a twist that transformed their little chart into The Chart. Today, The Chart stands as one of the signature pieces of economic research of the past generation. It is rigorous enough to have appeared in the Journal of Portfolio Management and simple enough to be understood by those of us who are behind on our Portfolio Management reading.
Favorite Excerpts (Via Yale Almuni Magazine)
So Shiller and Campbell did something that, on its face, did not make much sense. To get a better glimpse of the future, they looked further in the past. They compared stock prices at any given time with average corporate earnings over the previous ten years. Later on, they would discover that a classic investment textbook, Security Analysis, published in 1934 by Benjamin Graham (a mentor to Warren Buffett) and David Dodd, had advocated this same approach. Investors, Graham and Dodd wrote, should look at earnings for “not less than five years, preferably seven or ten years.” But there is no record that the two men ever published such a data series themselves. Until Shiller and Campbell came along, long-term P/E ratios were virtually absent from public discussion
“What is the thing that should be on our mind now?” as Shiller put the question. “It’s how to preserve this sense of justice and good feeling that we have in this country — this feeling that I am willing to operate and do business in good faith because I feel that’s what people are doing and that’s what a good citizen should be doing.” Survey data from around the world have shown that economies grow more quickly when people trust their fellow citizens. But the financial crisis and the recession have left many Americans with a sense of distrust, Shiller said. A prolonged period of high unemployment — which now appears to be the most likely scenario — could aggravate the situation. The United States, in other words, may be heading into a period of irrational pessimism. Figuring out how to avoid this outcome is Shiller’s new project.
They argue that flaws and excess are inherent to a market economy — and that they are not minor. “The economics of the textbooks seeks to minimize as much as possible departures from pure economic motivation and from rationality,” Akerlof and Shiller write. “Our book marks a break with this tradition. In our view economic theory should be derived not from the minimal deviations from the system of Adam Smith but rather from the deviations that actually do occur and can be observed.”