On 12th May, 2014, Just before election result, I had blogged about dilema of Individual Investor to Invest In Equity Markets and had referred to the article published in Quartz.com.
Since then Market is continuously outperforming and it seems we are almost in a structural bull run, as few Pundits would like to call. Nevertheless, we still have skepticism in the mind about investing into equity..Whether price is right or should I wait for correction or more aptly, Should I time the market.
While thinking too hard about investing, we fall prey to various behaviour and human fallacy, primary being forecasting in future. Try to estimate geo political and macro economic outcomes in coming months. While thinking about it, I have just read the article by Tim Harford on Forecasting, and how bad we are at it. If you have read the articles by/about Philip Tetlock, an eminent economist, you know that even most expert fail at predicting the events, and they are no better than Dart Throwing Monkeys.
Probably, as Individual we are prone to the similar error in our Thinking. We do not take decision based on fundamentals (economic conditions, management of the company, dividend yield or long term potential etc…) but depend upon our own set of forecasting…What are the chances of shares giving us higher return, whether market is in bull run, whether prices have gone up very high…so on and so forth.. and mostly thats where we make mistakes… We do not invest into Company but in favourable circumstances, while discounting uncomfortable factors. If you have read the article by Tim Harford, the mistake in investment style by Fisher and Keynes ( both the greatest economics of all times ) would come glaring to you, and thats where the lesson is for all of us. Just for better context, both FIsher & Keynes (John Maynard Keynes) great economist lost heavily in the First Recession, economic crash of 1930…Fisher died as poor man, whereas Keynes recovered and till today hailed as Father of Modern Macroeconomics…under the backdrop, its worth reading the whole article, still synopsis are for your reading..
Errors in Investment Philosophy of Fisher :
“His optimism, overconfidence and stubbornness betrayed him.”
“Irving Fisher’s mistake was not that his forecasts were any worse than Keynes’s but that he depended on them to be right, and they weren’t. Fisher’s investments were leveraged by the use of borrowed money. This magnified his gains during the boom, his confidence, and then his losses in the crash.”
“Poor Fisher was trapped by his own logic, his unrelenting optimism and his repeated public declarations that stocks would recover. And he was bankrupted by an investment strategy in which he could not afford to be wrong.”
Errors and subsequent Correction in Investment Philosophy by Keynes :
This wasn’t because Keynes was a great economic forecaster. His original approach had been predicated on timing the business cycle, moving into and out of different investment classes depending on which way the economy itself was moving. This investment strategy was not a success, and after several years Keynes’s portfolio was almost 20 per cent behind the market as a whole.
The secret to Keynes’s eventual profits is that he changed his approach. He abandoned macroeconomic forecasting entirely. Instead, he sought out well-managed companies with strong dividend yields, and held on to them for the long term. This approach is now associated with Warren Buffett, who quotes Keynes’s investment maxims with approval. But the key insight is that the strategy does not require macroeconomic predictions. Keynes, the most influential macroeconomist in history, realised not only that such forecasts were beyond his skill but that they were unnecessary.
Perhaps even more famous is a remark often attributed to Keynes. “When my information changes, I alter my conclusions. What do you do, sir?”
If only he had taught that lesson to Irving Fisher.
End Note :
Lesson for all of us :
Instead of moving in and out of business cycle, sectors, events of geo-political events, or try to forecast the market, invest or remain invested for long run in good business. I have no idea whether market will continue to grow, but future economic outlook, policy implementation and governance looks good. Define investment strategy in which you can afford to be wrong. Equity as an Asset Class is important but no more than 25% of your portfolio…Invest over long run, diversify and understand the concept of averaging out.