Prospective Hindsight & Limits of Foresight
The next twelve months may be an especially interesting time. There is hope, but there is still much unknown. Let’s mind travel to December 2021. Next year at this time, we may look back and say, “Of course, how did I miss that”? This activity of jumping forward to look back is known as prospective hindsight.
The 1999 Tech Bubble
This was a time when profits didn’t matter. We didn’t wonder whether a technology stock would go higher, we wondered how quickly it would double in price. There was little perceived risk in the market. Then came the great bubble burst.
Looking back, it was obvious. How could profits not matter? “Growth at any price” was a short-term phenomenon.
The Financial Crisis
The financial crisis was another situation that is now obvious. The amount of leverage assumed nothing would go wrong. There were tranches of mortgage debt rated AAA by trusted agencies. What was there to worry about? Sure, the debt was enormous, but all looked good. Until it didn’t.
Our Current Situation
With vaccines on the horizon there is a lot of hope, but also a lot of questions. How long will it take to get back to normal? What additional stimulus will be provided? How much more economic damage will occur before we get out of this?
The bulls refer to the high levels of saving and pent-up demand. The bears point to the amount of debt and uncertainty over vaccine distribution. We don’t how this will unfold. We could grow out of this fairly quickly or we could face significant setbacks.
How Will We Miss It?
At some point in the future, we will look back and wonder how we missed something so obvious. If only we knew that now! This is why the best course of action is to ignore the predictions and follow your plan. There may be confident forecasts, but don’t kid yourself – no one really knows. Not even the “experts.”
There are cases, reasons, evidence and justifications for various potential outcomes. The present day will all make sense at some time in the future. We will wonder how we missed it.
Limits of Foresight
The power of foresight is desirable but limiting. Even if you could know a future event for certain, you wouldn’t know how everything would play out.
For example, let’s say at the beginning of the year I would have told you that there would be a global pandemic and economies across the world would shut down. Do you think that information would have influenced you to sell some stocks?
And what if I told you that Pfizer would be the first company to develop an effective vaccine. Would that have influenced you to buy the stock?
Both those events occurred, but the results of the stock market were surprising. Pfizer, the maker of the vaccine, had a flat stock price. But the S&P 500 was actually up 10% (as of Nov 20, 2020).
Similarly, there are some things we may be certain of pertaining to the election. Joe Biden will be our next president and he will likely pursue progressive policies. But even if we are right, we still don’t know how the market will respond to such policies.
Since 1949 returns in the market have not correlated with which party was in power. Returns are much higher for individuals who remained invested the entire time, versus people who invested only when a Republican or Democrat controlled the White House.
Stay the course.
©2020 The Behavioral Finance Network. Used with permission.