The ever-changing landscape of financial markets often compels us to fixate on the immediate: Why did the market dip by 2% today? What moves will the Fed make next? What are the key themes shaping the markets for the coming years?
Such questions form the heartbeat of the investment sector.
They fuel narratives, drive sales, create jobs, and influence investment strategies. This cycle constantly reminds us of the need to make accurate predictions to achieve our financial objectives.
Entering this realm, it’s easy to be swept up in the current of the day’s hot topic. The pressure to be knowledgeable and opinionated about these issues can be overwhelming. But is that really necessary?
When considering any piece of information or variable in the investment process, it’s vital to evaluate its potential impact on your goals. For instance, suppose you’re eyeing real yields as a significant factor for equity returns over the next three years.
It’s not enough to recognize its importance; you must also assess whether you can predict it with reasonable accuracy. If not, diversification across various potential outcomes becomes a more prudent strategy.
For long-term investors (over a decade), valuation often emerges as a key determinant of returns. Here, both influence and predictability align positively. The price paid for an asset significantly affects long-term returns and is known with a fair degree of certainty upfront.
However, if we shorten the investment horizon to a year, valuations, while knowable, lose their short-term influence.
Identifying What Matters in Investment Decisions
Investment decision-making is a nuanced process that requires a deep understanding of what variables truly matter. Identifying these critical variables involves a systematic approach, blending analytical skills with a clear understanding of your investment objectives. Here’s how to go about it:
- Define Your Investment Objectives: The first step is understanding your goals. Are you investing for retirement, to buy a home, or for your child’s education? Different goals require different strategies. Long-term objectives might align better with equity investments, while short-term goals may necessitate more liquid assets like bonds or money market funds.
- Identify Influential Variables: Variables like market trends, economic indicators, and company performance are common influencers. However, their relevance depends on your strategy. For a value investor, a company’s intrinsic value and price-to-earnings ratio might be crucial, while a technical trader might prioritize stock patterns and volume.
- Evaluate Predictability: Not all influential variables are predictable. It’s crucial to differentiate between what can be reasonably forecasted and what is speculative. For instance, economic trends might be projected based on historical data, but geopolitical events are often unpredictable.
- Consider Professional Advice: For many investors, working with an investment manager can be beneficial. They offer expertise in analysing market trends, managing risks, and tailoring a portfolio to your specific needs. Investment managers can provide insights that you might miss and help diversify your investments to spread risk.
- Avoid Emotional Decisions: Emotion-driven decisions can lead to impulsive buying or selling, often at the wrong time. Cultivate discipline and stick to your strategy, even during market volatility. This approach will help you focus on long-term objectives rather than short-term market fluctuations.
The reason that short-term market predictions are so difficult to make is that we do not know what the most influential variables are likely to be (what market participants will care about tomorrow), nor – by definition – can we predict them.
For short-term market forecasts everything and nothing matters, making it a futile and farcical exercise.
Investing success isn’t just about keeping up with every market fluctuation or trend. It’s about identifying and concentrating on the variables that align with your investment objectives.
By understanding what truly matters – the influence and predictability of variables – investors can make more informed decisions, focusing on long-term gains rather than short-term uncertainties.
Good investing requires us learning that sometimes less is more, when it comes to what you pay attention to. Contact us today for an assessment of your portfolio strategy and we’ll show you how.