Don't predict

We want to avoid speculation. To avoid speculation, we need to avoid predicting. But how can we earn a good return and not predict?

It's really hard not to make a prediction. News, twitter and much commentary in general are predictions. Prediction creeps into our thinking whatever we seem to do, even if we actively try to avoid it. 

• "Let's hope this will be a good year"
• "Small cap, investment trusts or tech stock are overvalued. The P/E ratio seems high, don't you think?"
• "Inflation will destroy all returns in the next decade!"
• "Interest rates can't go down more"
• "I'm sure this stock is undervalued"

Why shouldn't we predict? Because there is no reliable crystal ball for the future. Predicting has a notorious bad track-record, obscured by winner bias.

The price on the market is the average prediction of all the market's participants. For us, the best model of the market is that it follows an entirely random process - it's perhaps not always true but it's the best approximation for how the market behaves for, we dare say, any small investor, like us.

The Oracle of Delphi, perhaps reading the financial news. 
Delphic Sibyl, fresco painted by Michelangelo, Sistine Chapel Ceiling (1508-1512) 

But what should one do if we don't want to predict?

First, we should refrain from predictive narratives that sound logical. Because that's what narratives do (sound logical) but it doesn't make those narratives into better predictions.

Examples:

• Reached the bottom? Perhaps we, or the 'experts', are sure that we're at the bottom of a stock market cycle - but in reality it's very hard to say when and how fast the recovery will come. And when prices are low, developments can be very quick. One can loose 50% or 90% of one's money in a day going in or out of the market when it moves around the bottom of a boom- and bust cycle. So it's better not to predict and stay the course with a strategy that was thought-through before the stock market cycle went downhill. 
  
  
• Reached the top? Perhaps we are sure that the stock market will stop going up, because any number of good-sounding reasons. Yet - when will that happen? Over time the market goes up, and that means that it beats its all time high again and again. And whatever theory one picks to predict the top, there are nuances that the theory will not encompass. The markets are a learning-machine, that already contains all known theories. For instance, a simple point: there's a denominator in the P/E-equation.
  
  
• Cash and gold. Perhaps we think that "only productive assets" will survive, and discover that market price appreciation for other assets also delivers real money, especially when those productive assets are at bargain prices. Who realizes that cash increased 500% in value between 2001-2003 instead of seeing the other (but same) picture - that the stock market went down 80%?
  
  
• Interests are low or high. Perhaps we think that "interests can't go down more" and discover that long term interest is powerfully controlled by the long-term expectations on inflation and interest rates by the markets. And as the central banks and politicians discover, markets are much more adaptable learning machines that are much more powerful then what a 'sovereign' state wants to admit or can fully control. 

We might hear what we want to hear when we think we should rely on a prediction. The easiest person to fool is ourselves, with our desire to hear what we want, and avoid to hear what we don't want to know. We're prisoners to our own delusions. 

Temet nosce as it was said in Delphi. Know thyself before you try to understand a prediction about the future; and the ancients knew with many a cautionary tale how a prediction tend to fool the listener.

We've tried as well. We've been rock sure that we're at the bottom of a stock cycle. And just as sure that gold can't go up. What we've learned is that we are usually 180 degrees wrong when we try to guess what is going to happen. 

Perhaps you are better than us; which shouldn't be too hard, but to really outperform the market one needs to be better than average, which doesn't mean better than any average Joe, but better than professional investors.

It's a tough game to play.

So what could one do?

A solution to not predicting

Well, build a strategy that doesn't predict. 

One popular way is just to buy the stock market on average, by buying an index fund.

We don't think this gives a good price on the risk one is taking on, but it's a strategy with less prediction. 

Another closely related strategy is to focus on dividends, not stock market prices.

Betting on many futures at once

Our way is to combine assets that performs well for most scenarios of an economic and credit expansion and contraction. 

The idea behind asset allocation is to buy into different likely scenarios and have assets that perform well in different futures and hence not bet on any future in particular.

What we started our journey with, was the hardcore solution of strategies like this and when it comes to erring on the safe side: the permanent portfolio, which has much better returns and performance than most newbie investors think.

Read more here: A-well kept secret: Our portfolio for accumulation.

Not even we are that hardcore as the permanent portfolio anymore. But it's worth knowing that it exists and how it behaves, and also ponder using it. We did so for many years.

The bottom line is: we still pay extreme attention to avoid trying to foresee the future.

Farewell.

//antinous&lucilius

Where to go next? Perhaps some thoughts of why it's not overly wise to rely on an expert.