Learning to invest your money with confidence is all about examining what you THINK you know, and balancing this against a simple yet disciplined process that will enable you to make financial decisions you can feel good about.
As a great example of this, many thought that they knew for certain how financial markets would respond to the results of the US presidential election at the end of 2016. However, as Mark Twain once said, “It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so.” Mark Twain was a genius.
Predictions vs. 2016 Reality
First, let me stress that this is investment commentary, not political commentary. Nonetheless, the conventional wisdom before the election – from many Republicans and Democrats alike – was that the markets would likely experience a significant decline if Donald Trump was elected as our next president.
One famous investor-businessman-entrepreneur proclaimed, “In the event Donald wins, I have no doubt in my mind the market tanks.” (emphasis added) Similarly, an often-watched financial network published an article entitled “Here’s how to hedge your portfolio against a Trump victory,” which stated that “a Trump victory could bring considerable uncertainty that would in turn lead to volatility, which could send gold prices soaring.”
What was the reality? From November 8th (election day) through the end of 2016, the S&P 500 gained 4.64% and the broader-based Russell 2000 was up 13.55%. And those gold prices that were supposed to soar if Trump won? From election day through December 31st, the SPDR Gold Shares (GLD) was down -9.89%.
Reasonableness vs. Reliability
Few considered the predictions above unreasonable at the time they were made. The predictions above were made by respected investors who made articulate, well-reasoned arguments as to why the economy and/or the market would respond in the manner predicted. In fact, one might argue that the reasonableness of the predictions was evidenced by the worldwide market volatility that occurred on election night. For a few hours.
Predictions themselves may be reasonable. The problem is, being reasonable doesn’t make the prediction correct. Predictions are inherently unreliable, and that makes them a dangerous way to build your investment strategy. Those who heeded the call to flee equities and buy gold didn’t just miss out on the equity rally, they suffered significant losses in the “safe haven” asset.
Predictions vs. Process
Instead of speculating on the latest predictions, you can achieve a better investment experience by following a disciplined process that:
- Embraces market pricing: Markets are effective at instantly processing information and setting prices.
- Resists trying to outguess the market: Only 17% of US mutual funds survived and outperformed their benchmarks over the 15 years ended December 31, 2015.
- Resists chasing past performance: Past performance does not guarantee future success. It’s not just a disclaimer; it’s truth.
- Allows markets to do the work: If you believe that markets will go up over the long term, you should rebalance your portfolio when dips occur so that you’re buying low and selling high.’
- Utilizes academic research to identify what drives long-term returns.
- Practices broad, global diversification: As of December 31, 2015, 48% of world market capitalization representing more than 10,000 companies existed outside of the United States.
- Avoids market timing: Because markets instantly process information and set prices accordingly, it is difficult – if not impossible – to know what market sectors will outperform in any given year.
- Manages investor emotions: An emotional reaction to an uncertain situation can often lead to poor investment decisions and outcomes.
- Looks beyond the headlines: Headlines are designed to get you to read an article, not develop a long-term investment philosophy.
- Focuses on what YOU can control: Although we can’t control the financial markets, we can design a portfolio consistent with your risk tolerance, that diversifies broadly and minimizes turnover, among other things.
It’s time to stop worrying about what you don’t know – and can’t know – about how the market will perform in the short-term as the result of events that may (or may not) happen.
Instead, watch out for the market predictions about which you have no doubt in your mind. Mr. Twain was right. Those are the things that will get you in trouble.