“The best way to predict the future is to create it” – Abraham Lincoln
Sorry it’s been a while since my last post – suffering from a serious case of writer’s block. On that note, if you have any suggestions for articles, please email them bytesizestory@gmail.com. Next to the article.
Follow many equity indices and one clear trend you will notice is the constant rise of the index, and the underlying asset (i.e. real stocks). Not necessarily every day, but over time. At Dow Jones index is a good example. Investors in the 1980s had a lot to look forward to.
This leads people to suggest that in the long term you will come out on top if you invest in ventures. It’s unnatural. Over time, people often talk about it, it’s accurate. Plus, on average, you will beat the return of keeping money in the bank.
People see trends and assume they will continue. Sure, admit to short-term variance, but generally expect a long-term upward trajectory.
But what if we were in May 199.1 looking at investing in Nikkei 225? It’s a different story, right? Despite the star’s rise from the 1960s to the 80s, Japan’s growth and the equity market will stagnate in the next three decades.
This does not mean that the Dow Jones and Nikkei 225 will follow the same pattern, just that historical trends can be deceiving.
Predictability is fun
Despite the first impression, this article is not about equities and indices. About the order and how difficult it is to understand the ‘direction of travel’ for some events – that is prophecy.
Some sequences happen over a short period of time – hours or days. Others may take much longer to fully roll out. The sequence can be as simple as the work week. Or more complicated, like the fall of an empire.
People don’t get order, especially long-term order. It’s hard to understand because we’ve probably experienced parts of it. different ‘parts’ of the sequence may have different trends and can only be understood if we can see them all, often with benefit from the end.
Most people have a recency bias that is part of the forecast often seems like it’s happening now, but it’s bigger – it’s certainly happening in the financial markets. People struggle to plan scenarios outside of current trends, and even if they can, they are limited by the herd mentality.
Herd mentality, consensus-driven thinking, and skewed incentives fuel the following trends. No one wants to be the one to stop the music or go against the consensus. This creates a career risk and the possibility of being labeled a fool, it is better to be wrong with someone else. Or worse…be wrong when everyone else is right if you go against the grain.
A house price crash in New Zealand is a good example. No one wants to predict, but a price crash could happen if the global cost of capital rises, because of the country’s debt. Do you want to be the bank that stops lending before everyone else, before the bonus period, when you have targets to meet? Of course not.
There is nothing more exciting than a good trend. Established trends imply that the future will look like the past and the illusion that people can anticipate what is to come with more certainty than what is.
It’s hard to know where you are in the order
Our investors in Japan in the 1980s could not know for sure what the next 30 years would bring. They can show statistical predictions based on a set of explanatory variables. They may tell you about how the market is reacting to certain events.
But they don’t know what could change the trend. This is what makes forecasting so difficult. The pattern is entirely changeable. It may be longer, shorter or follow a different pattern.
Let’s take a look at equity trends, and what’s driving the rise in value.
Low interest rates, the integration of emerging markets into the global economy, continued globalization, peace between major powers, the demographic dividend, falling corporate tax rates and business-friendly capitalist democracy have all been features of the global economy over the past 30-40 years.
Without this, can the market continue to rise … and if they can … they are priced to do today? Or does the level have to be reset before it works (like Japan)?
A trend cannot be repeated if what caused the trend changes, or has already run its course. Ultimately, you can’t predict, but you can prepare. But that’s another article.
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