Why is past performance a trap?

AJAM said:
All I'm saying is that past performance does not guarantee future performance.
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Absolutely. The one thing I am confident of about the future is that it won't look like the past. And it won't deliver average returns in any particular year either (average annual return of Nasdaq 100 is 18%, but not one year since 1986 actually had a return of 18%). The next 20 years probably won't deliver either the average or median 20 year returns (11% & 11.5% respectively)- it's only done so twice since 1986 after all.

AJAM said:
However the Global index does guarantee, that no matter which geography wins, you're invested in it.
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Equally, it guarantees you're invested in the ones which lose. Don't forget that if the S&P or whatever plummets, it'll take the global index with it.

AJAM said:
So I assume you will be investing 100% of your portfolio there? Past performance etc.
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Have you a dataset of returns from 1986 along with relevant Kroner/euro exchange rates so I can compare like with like? The article you linked is almost devoid of actual data.

I note the previous article in the series you linked is entitled "How Cycles of Hype Distract Investors", but obviously hype is just the other side of the coin from fear, and fear based investment or divestment is as expensive as hype based investment.

The article you linked concludes with "Put another way, a globally diversified portfolio can help provide more reliable outcomes over time" which is undeniably true. The standard deviation in returns for the global index is far lower than the standard deviation for the Nasdaq 100 which makes it more predictable as it moves within a much tighter range.

But 95% of returns over any particular 20 year period were between 6% and 16% for the Nasdaq 100, from which I can reasonably assume that the annualised return over the next 20 years will be within that range. MSCI All World is 3% to 10%. (This is based on the average 20 year returns +/- twice their standard deviation.)

Reliability and predictability don't necessarily mean better.

I can already cherry pick two data points to support any belief I happen to hold. (Google "ice cream causes crime"). I currently have large sets of data (tens of thousands of data points conveniently aggregated into indices) which are persuasive in pointing me in a particular direction. I'd like large sets of data which are persuasive as to why I should start to ignore the large sets of data I'm currently using as references.

Investing is supposed to be a cold & rational decision making process. Just saying "ignore all the data you currently have available and invest in a global index because it's safer" seems more dogmatic than rational.
 
For what it's worth (probably nothing!) I ran the same set of numbers on Berkshire Hathaway. For the historical performance stats it's better than the Nasdaq 100 in some ways, worse in others. It's price earnings ratio is half that of the Nasdaq and S&P. My limited knowledge & understanding suggests that all other things being equal lower is better, suggesting Berkshire is a lot better. But the killer for me is that Berkshire has never (since at least 1986) had negative returns over a period of 5 years or more, unlike everything else I looked at so far. It's lowest ever 20 and 10 year returns also compare favourably with the indexes I've looked at.

It's not available with my current pension provider, but I've switched out my (meagre) Trading 212 investment from Nasdaq 100.

EDIT: it also eliminates issues around deemed disposal and the exit tax on ETFs if they're not aligned with CGT as part of the ongoing review.
 
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BIG-notorious said:
It's price earnings ratio is half that of the Nasdaq and S&P. My limited knowledge & understanding suggests that all other things being equal lower is better
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A lower P/E ratio is neither better nor worse, it just means the stock is cheaper.

Berkshire of course makes an excellent example of how the past performance may not be a guide to future performance.

Normally I say that we cannot tell the future but for Berkshire I will make an exception.

Berkshire past performance has relied to a significant extent on the talents of Warren Buffet, that's not going to continue, Buffett will die in the medium term if not the short term.
 
I was stung in the 2000 dot.com bubble so can only emphasise that diversifcation is key. Don't have all your eggs in one basket. Better still to diversify in assets that are negatively correlated like stock and precious metals.
 
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ClubMan said:
Surely that's just going to cancel losses and gains against each other and leave you no better off?
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I wouldn't be surprised if gold goes to $4000 an ounce in the next year when the S&P500 looses 25%. You choose whatever makes you sleep better but knowing that you have hedged against inflation and a long overdue stock market correction makes me sleep like a baby.
 
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Flybytheseat said:
was stung in the 2000 dot.com bubble so can only emphasise that diversifcation is key. Don't have all your eggs in one basket. Better still to diversify in assets that are negativley correlated like stock and precious metals.
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I am of a similar vintage, I wasn't stung by the dot com bubble but I did lose my job as a relatively newly employed engineer when the downturn hit the telecoms sector, it went gang busters all through the 90s then wham bam their was a huge retrenchment. Although my colleagues lost almost all their stock options , they were electing to take so much of their income in stocks during the boom as the shares went ever upwards. They were basically wiped out and these were guys near the end of their careers in their 50s . The tech fall out took years to bottom and start rising again.
That's why the OP is not really getting this it's all very well to look back at it as a numbers game but in 2006 , 5 years into the big tech downturn you still had to deal with the general financial crash and you only emerged out of it around 2014
Oh and the 50% fall in the dollar between 1999 and 2009, that was very painful for international tech investors in the US, there was no sign then that another tech boom was going to start in 6 or 7 years time (2009 perspective)
 
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Past performance, i.e. alpha, measures the extra return a fund manager earns over the benchmark index, with the same or a lower level of risk. Essentially it depends on the fund manager’s stock selection ability. Extra return can be achieved only by (a) the manager’s ability to assess correctly macroeconomic conditions and move into stocks that will / may / should perform well in those conditions, i.e. industry selection; or (b) successfully carry out fundamental analysis of stocks that should perform well in most / all economic environments. This also includes the ability to move to cash or ‘defensive’ stocks, if macroeconomic conditions indicate a poor investment environment.

Financial markets are constantly adapting to changes in the macroeconomic environment, making it wishful thinking that any fund manager or management team can consistently and in the long term outperform a benchmark.

When you invest in an index, you are not blindly investing in the hope that it will continue to rise just because it did in the past (e.g. mean reversion), but because of the demonstrated ability of the industries in the index to produce efficiently marketable goods and services, e.g. by better capital allocation, generation of returns and payouts to shareholders.
 
One thing to bear in mind in such discussions is that for many people the opportunity costs of procrastinating and not investing in something may well outweigh the opportunity costs of not investing in the perfect asset mix/index etc. That's not to say that people just just invest in anything but at some point the costs of trying to identify an ideal solution probably outweigh the potential benefits. And just choosing a well diversified market index tracker may be better than trying to identify anything better. I've summarised my own experience in this context before in case it's of any interest/use to anybody else...

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PMU said:
When you invest in an index, you are not blindly investing in the hope that it will continue to rise just because it did in the past (e.g. mean reversion),
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But that's not what "mean reversion" is , it's the opposite, you are investing in markets that have underperformed because the "mean reversion" will inevitably move back in that direction and also away from the out performing markets because markets move back towards their mean over the long term. The US markets because they have become so highly priced along with the dollar exchange rates and now trump tariffs have made the US way too expensive and they will have to go alot cheaper , we saw that before in the first decade of this century.

Of course you also have to be patient and be prepared to sit it out in underperformed markets for a long time, but they are less exposed to shocks and crashes like tech stocks were back in 2001 and that was also the catalyst for the "mean reversion " in 2001
 
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PMU said:
This also includes the ability to move to cash or ‘defensive’ stocks, if macroeconomic conditions indicate a poor investment environment.
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Depends on whether the investment mandate allows it
 
From memory, there is not an asset class right now that is actually negatively correlated with stocks.
But it is theoretically possible.
For example gold has a very low correlation but not negative.
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Found this but it doesn't state the period. But you can see Gold is basically uncorrelated to US stocks 0.11
But there are a few things on the list that are negatively correlated (whatever ST Gvt and duration are?)
 
AJAM said:
For example gold has a very low correlation but not negative.
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True. Quantative easing or printing money will generally cause all assets to rise in value (e.g. stocks, property & gold) and I expect the money printing to continue in the US which is also why cash holdings are not a great idea. Bond prices also don't do well when central banks raise interest rates in an attempt to tame inflation.
 
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A, B, C all have positive long-term growth.

A & B are negatively correlated, each month they move in opposite directions relative to the same long-term trend.

C is positively correlated with A, and negatively correlated with B. The portfolio combining C & B is less volatile than C & A.
 
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BIG-notorious said:
Yes, i get it. All statistics are irrelevant and any investment other than a global index tracker is dangerously unpredictable and foolish.
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Your idea seems to be that the US market has outperformed in the past and so can be expected to out perform in the future.

If the US market has outperformed over say 20 years then (with the benefit of hindsight) it was underpriced 20 years ago.

You are suggesting that it is still underpriced, that you have spotted something that the rest of the world hasn't priced in.

Maybe there is a reason why this has persisted. Possibly the US market is inherently risker that other markets.

Consider Tesla, there is a non-neglibigle possibility that Tesla will crack autonomous driving and that in 7/8 years every new car in the world will use Tesla technology, if that happens Tesla is hugely underpriced.

There is also a non-negligible possibility that other producers will make cheaper and better EVs and Tesla will never get an autonomous car on the market. If that happens Tesla is hugely overpriced.

Tesco meanwhile will most likely deliver small annual increases in sales and profits, have some good years some poor years. The chances of it failing or growing hugely are slight.

The US market contains more Teslas than Tescos.
 
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