“While results vary from asset class to asset class and from time period to time period, experience suggests that for predicting future values, historical data appear to be quite useful with respect to standard deviations (risk), reasonably useful for correlations, and virtually useless for expected returns.”
—WILLIAM F. SHARPE, 1990 Nobel Prize winner in Economics
The above assertion from Dr. Sharpe, one of the great minds in economics and finance, and one of the originators of the capital asset pricing model, sums up that we must not look at the past to ascertain the future.
We can find many times throughout history where individuals chose investments based on the past. Remember the “dot com boom”? Ironically, when chasing investments that were yesterday’s darlings, the additional buying pressure can cause these past favorites to be even more artificially priced, moving them further away from the fundamentals that would justify their true value going forward. Meaning—one can really overpay for something, which makes the probability of investment success less likely.
Other titans of U.S. industry have offered similar sentiments in somewhat more simple terms—“Be fearful when others are greedy and greedy when others are fearful.” (Warren Buffet) and, “Buy when everyone else is selling and hold until everyone else is buying. That’s not a catchy slogan. It’s the essence of successful investing.” (J. Paul Getty) We have discussed in previous BWFA Advisor issues the perils of following the crowd. Unfortunately, the “crowd” (financial media, friends at the club, etc.) often look in the rear-view mirror to chart the course for the future. The general investing population might act on what was popular yesterday thinking it will be a good investment tomorrow—which is often not the winning approach.
In market downturns we often experience the widespread pessimism (possibly caused by the same crowd mentality) about an investment that can drive the price so low that it focuses too much on the investment risk, or perceived risk, and overlooks that investments prospects for returning superior results for the investor. Can we achieve success by looking for good buys now rather than overpaying for something that has been overhyped in the past?
Through prudent fiduciary investment management, much of the artificial signals or triggers from “looking in the rear-view mirror” can be professionally screened out so that the decision made for the investor can be focused on the merits of the investments moving forward into the future.
Joseph Manfredi | MBA | Chief Operating OfficeR / Senior Portfolio Manager | jmanfredi@bwfa.com