Looking at history and the long waves of demographics is a great and fine thing. It can tell you a heck of a lot. It’s frequently the case that history is driven by large, abstract, impersonal forces rather than singular decisive events. But…
…to start forecasting equity markets using these metrics is a perilous thing. And it’s becoming all the rage lately.
The problem with demographics as equity market forecasters is that, first, in order for you to be right, you might have to wait, you know, a generation or more. Also, even if you can shoehorn a theory to explain all, at best you only have a few good data points to support the correlation tied to equity markets. That’s not much to stake a +20 year forecast on.
It’s an old adage: Investors have short memories. Another: the market discounts the future.
Here’s some interesting psychological research as to one reason that may be: Yesterday came suddenly
“Because future events are associated with diminishing distance, while those in the past are thought of as receding, something happening in one month feels psychologically closer than something that happened a month ago.”
The next time an investing guru presents you with ironclad statistical results, remember this article:
Unreliable neuroscience? Why power matters – Suzi Gage
In a paper published today in Nature Reviews Neuroscience we reviewed the power of studies in the neuroscience literature, and found that, on average, it is very low – around 20%. Low power undermines the reliability of neuroscience research in several important ways.
As with so much of her work, Deirdre McCloskey has penned a biting and powerful critique of today’s economic study of “happiness”.
This stuff is worth being aware of because it’s popping up in political discourse regularly. In particular, note the creeping paternalism lately becoming a full infestation in behavioral economics.
Markets adapt, and long-term profits approach zero for high-speed trading. The winners are market participants, who benefit from higher liquidity and smaller bid/ask spreads. The part most folks miss about the flash crash is the market self-corrected as fast as it sank.
Regulator, Go Slow on Reining in High-Speed Trading: Algorithm-driven trading appears to be self-correcting. That’s good—the hyper-fast world needs it.
If you’ve never read Leonard E. Read’s I, Pencil, it’s always a good time. A wonderful summation of free market principles, it’s also a document Milton Friedman referred to often. Here’s a parting lesson, straight from the pencil himself:
“The lesson I have to teach is this: Leave all creative energies uninhibited. Merely organize society to act in harmony with this lesson. Let society’s legal apparatus remove all obstacles the best it can. Permit these creative know-hows freely to flow. Have faith that free men and women will respond to the Invisible Hand. This faith will be confirmed. I, Pencil, seemingly simple though I am, offer the miracle of my creation as testimony that this is a practical faith, as practical as the sun, the rain, a cedar tree, the good earth.”
Fisher Investments faithful Bill Shepherd recently opined on a number of topics. When experience like his speaks, I think we ought to listen. Here are a few thoughts:
Mutual funds were originally created to help achieve diversification—and are still helpful for those who don’t have a lot to invest, but would like a diverse portfolio. They can help investors get started in the markets, but can be expensive, due to trading and possible tax implications, and can lack the flexibility of a portfolio of stocks and fixed income. “While mutual funds make sense for some investors, it’s important to make sure you own them for a reason and/or haven’t out grown them,” says Bill Shepherd. “Meaning, you can achieve sometimes cheaper diversification buying multiple stocks than buying mutual funds—but it depends on your financial goals and what you can truly afford”, he continues. Here it’s helpful to have a money manager whose interests are aligned with yours to help guide you to optimal investing decisions in your portfolio.
Bill Shepherd recognizes there are many different avenues in the financial industry when it comes to choosing a money manager. “In general, I think one of the most important questions to ask yourself is, are my interests aligned with my financial professional’s? Said another way, will they do well if you do well?” asks Shepherd. “This may not be true in all facets of money management. Brokers, for example, may work on a commission system based on activity rather than a management fee based on the size of your portfolio like Fisher Investments. This structure allows us to align our interests with our clients. We utilize separate custodians to house client assets, so we don’t earn commissions on trades that are placed in your account, nor do we sell you products. So our answer to that question is this—absolutely—if you do well, then we do well.”
A big challenge in investing is the culture of emotional created largely, it seems, by the media—especially now that news is available 24/7 on the internet, TV, smartphones and tablets and constantly updates. “It’s very easy to let emotional reactions lead your investing decisions, and your understanding of economics,” says Bill Shepherd. “A good example of media spreading negative sentiment about markets right now is the fiscal cliff. However, Fisher Investments believes talk about the fiscal cliff’s impending disaster is likely a lot of hot air—which unfortunately sells more for the media,” continues Shepherd. More about Fisher Investments views on the fiscal cliff can be found on MarketMinder.com.
The investment process is only half the battle. The other weighty component is struggling with yourself, and immunizing yourself from the psychological effects of the swings of markets, career risk, the pressure of benchmarks, competition, and the loneliness of the long distance runner. – Barton Biggs
Myopia is the mood of the era. (If myopia isn’t an official “mood” yet, let’s make it one. Like melancholy, amour, and that depressive vacancy we all feel in February when football is over.)
What’s the fate of the EU? Spanish yields at new euro-era highs? Is China only going to grow (gulp) 8% this year? And what about cotton prices! Oh cripes…the supreme court decision!
These are all questions for prop traders—people with a daily, monthly, quarterly, even yearly, focus. My bet is, if you’re an average investor, all this stuff feels uber important but has little or no real importance on building long-term wealth. And yet some investors occasionally get so caught up in the myopia they forget all about goals and the discipline of wealth building.
Learn to put stuff of the moment into perspective. A longer view, above the noise, shows a world of great opportunity with cheap stocks. If you think euro problems will sink the world for all-time, or middle east unrest will unravel all wealth, you simply have never studied history. Even if the euro capsizes wholesale, capital markets have withstood far tougher and rougher, and equities over the long-term have delivered. It’s the path to get there that’s often ineffable.
Myopia is generally depressing, isolating, feverish. I don’t like any of those things and neither should you. Shake the mood. Read a book like Peter Diamandis’ Abundance.
This blog has long fought the inertia of dystopic Mathusian thinking, which never proves true but continues to be one of the prevailing fictional narratives of intellectual discourse. Matt Ripley’s The Rational Optimist was one of the best investing/econ related books of the last few years. Now comes Peter Diamandis’s new book Abundance.
Check out these books, and see Diamandis speak on the subject here: