Investors must appreciate that, while there is a pattern to events, no pattern is perpetual. The more widely-held the belief in the persistence of a current trend, the less likely it is to continue.
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Using the outlook for the economy to predict the direction of the stock market, which most appear to do, has it exactly backward. The stock market’s behavior will predict the economy’s future behavior.
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My view is that it is different every time, and that the relevant analytical exercise is to figure out what the differences are, what the similarities with past periods are, and what it all means, so that one can make sensible investment decisions.
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Investing is all about probabilities, and just because there appears to be a strong consensus prices are going to keep going up, doesn’t mean that is wrong, or right. The consensus does tend to be wrong at the turning points, being invariably bullish at the top and bearish at the bottom.
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About the only advantage of being old in this business is that you have seen a lot of markets, and sometimes market patterns recur that you believe you have seen before.
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It is an old cliché that they don’t ring a bell at the tops and bottoms of markets, but it is not entirely true. Occasionally someone climbs up in the belfry and does just that, as a public service, but knowing that few are likely to heed the bell.
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As history has taught us, most of the time, most of the crowd moves long after the optimum time to have moved is passed. So it is with investment trends, which start with the belief of a few and end with the conviction of the many.
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Extrapolating existing conditions too far into the future is likely to lead to disappointment. But as long as people continue to make this mistake, and as long as the market consensus reflects it, history will continue to repeat itself in Wall Street.
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The important question for the investor is not whether conditions are good or bad (if, in fact, they can be measured on such a scale), but whether they are changing for the better or for the worse relative to expectations.
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The important question is not whether conditions are good or bad, but whether they are changing for better or worse.
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One of the important factors behind the fluctuation between bull and bear markets, between booms and crashes and bubbles, is that investor memory has to fail us – and fail universally – in order for the extremes to be reached.
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I believe it is highly possible to improve your long-term results by adjusting your investment position at the extremes of the cycle. Not that often. But at the extremes.
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I have a great belief that everything is cyclical in life, particularly in the investment world.
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Any market will gain respectability if it goes up high enough and any market will lose respectability if it goes down enough.
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The problem is that real risk and perceived risk are two different things. And that’s where people get into trouble, because they perceive risk to be high when prices are low, and they perceive risk to be low when prices are high.
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The reality is that financial markets are self-destabilizing; occasionally they tend toward disequilibrium, not equilibrium.
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If you’re going to invest in stocks for the long term, or real estate, of course, there are going to be periods when there’s a lot of agony and other periods when there’s a boom. I think you just have to learn to live through them.
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Periods of depression invariably follow periods of overoptimism, when fear replaces hope as the controlling emotion.
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There is one law I believe in, which I call elasticity. That is simply an intuitive non-scientific term for the law of regression to the mean. What goes up does not have to come down, but what goes up a lot more than everything else, frequently has to lay fallow for a long time while much else catches up.
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Please do not forget that as the common stock level advances, the advantages of common stocks appear to be more attractive and the basic need for owning them becomes more persuasive in everybody’s reasoning. Yet in fact, common stocks undoubtedly become riskier as the price advances, and thus the risk increases as the widespread acceptance of common stock develops.
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In Wall Street, what has happened before will happen again. It must, as you will admit if you stop to think about it.
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While majority opinion can give any market movement considerable momentum that keeps it going in the same direction, majority opinion is inevitably and consistently wrong at turning points.
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The fact that people will be full of greed, fear, or folly is predictable. The sequence is not predictable.
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If the stock market has a period of outperformance of its long-term return, it is inevitably followed by some period of underperformance. But people being optimistic and greedy by nature take the recent short-term outperformance of stocks as a sign of good things to come, rather than a warning of bad things to come.
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The whole reason that our capitalist system works the way it does is because there are cycles, and the cycles self-correct.
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Any contrarian knows that just as a grim present is usually precursor to a better future, a rosy present may be precursor to a bleaker tomorrow.
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The constant lesson of history is the dominant role played by surprise. Just when we are most comfortable with an environment and come to believe we finally understand it, the ground shifts under our feet.
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Unless you are that rarest of birds, someone who is cool under the rapid-fire, high-pressure decision making required to maximize your returns, let others take such risks, and allow your portfolio to plug along at a slower speed. In investing, tortoises tend to win far more often than hares over the turns of the market cycle.
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The fact is that strategies that perform sub-optimally under certain market conditions can work surprisingly well in others.
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Just as in the realm of pugilism, a few years of soft living will make a Dempsey easy prey for a Tunney, so a period of prosperity contains the seeds of its own destruction.
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The man in the street associates the acquisition of wealth with rising markets; failures, ruin, depression, panics with falling markets.
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When things go badly, people become cautious. Then their caution causes things to go well, and when things go well, they become incautious. I think that’s a forever cycle.
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The strange revolutions wrought by time are nowhere so evident as in the securities market, where an accurate comparison of the present with the past is afforded by the price record over a period of years.
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The only significance of stock market gyrations to the true investor is that they give him an opportunity to buy good common stocks when they are cheap — or at least reasonably priced — and at times offer him an invitation to sell out at temptingly high levels.
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The only thing you can be sure of is that there are times when large numbers of stocks are priced too high and other times when they’re priced too low.
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It is a safe prediction for me to make that, in future years as in the past, common stocks will advance too far and decline too far, and that investors, like speculators — and institutions, like individuals — will have their periods of enchantment and disenchantment with equities.
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Experience in former markets indicates that just as they are too high in bull markets, they get too low in bear markets.
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Bull markets and bear markets last long enough so that the average trader is likely to forget by the time the climax is approaching that any sort of movement is possible.
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The market cycle of the future may prove to be surprisingly independent of the business cycle, and it may even exist if there is no business cycle — which is in itself quite an assumption, but not an entire impossibility.
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Whether stocks rise or fall is determined by innumerable forces and elements, by economic conditions, the actions of governments, the state of international affairs, the emotions of people — even the vagaries of the weather.
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The impression has built up that the stock market is the cause of booms and busts. Actually, it is the thermometer — not the fever.
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The broad pattern of market action in the past is the best guide to the future — but it is not an infallible guide.
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Allied to the general pattern of market movements is the general pattern of speculative thinking.
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The market cycle will once more prove to be the human-nature cycle; its economic background will have changed, but not its basic character nor the consequences of its character.
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