In his latest book(1) Michael Lewis describes how the US Government funded the study of destructive weather phenomena. Over decades, this activity has delivered enormous improvements in predicting where they occur. Tornadoes, though, have two characteristics which remain out of reach: where they will touch the ground and where they will move from there; these are random. Much like earthquakes, where current science is capable of pointing to where the problems may arise, but not when and with what magnitude.
Because humans have a tough time dealing with randomness, all sorts of questionable reasoning and behavior take shape when confronted with it. For example, a surprising number of individuals who live in well-known tornado-prone areas often don’t take protective action when warned. Some of the baffling reasonings: “twisters never hit the east side of MyCity, where I live,” or “MyRiver has blocked every tornado recorded in history.” And so, incredibly, in an extreme version of it-will-never-happen-to-me mentality, they stay put. I say to myself: never underestimate how lucky you’ve been or overestimate the relevance of superstition; always think black swans.
Is this the same type of behavior that takes shape in the minds of investors when confronted with relatively well-established and historically tested market circumstances? Granted, consequences from any adverse financial event are not comparable to the physical devastation tornados deliver. Still, you would think that if an alert – positive or negative – is flashing, people would take appropriate action as opposed to staying put.
While it’s true that doing nothing most of the time is by and large better than doing something, there are exceptions to this rule – at least as far as moderating exposures to assets which could be susceptible to a change of direction. However, the issue here isn’t whether or not to do something but more to understand the type of mind or reaction most investors exhibit in certain circumstances. You will find in a lot of cases that this is indeed another example of it-will-never-happen-to-me, which here more accurately translates into I-will-do-the-right-thing-before-anyone-else. It’s irrelevant if the “I” is the investor or his/her advisor, as it’s also irrelevant to assign the blame for why action was not taken as appropriate. Maybe we are just very lazy and when facing phenomena of any type we will try to take the easy way out; bad stuff doesn’t happen to me because I live next to the inviolate river (so why bother with all the upheaval of running away?), or I won’t lose much because I think I can get away with it by being clever (new analysis and more data, even though not relevant) and ignoring history.
Randomness has the nasty habit of lulling us into self-assurance, a sense of security and believing “we got it” when none of this is warranted. The number of assertions made and advice given basing the reasoning on meaningless connections or observations is ever on the rise – with or without Trump. Who knows what this lady was thinking: