Ignoring the risks of Macro EventsPratik Mate
The Russian army’s invasion of Ukraine is the latest macro event that has investors concerned about equity markets. It is also the latest macro event that most investors would do well to ignore. We worry about specific, prominent issues because we want to protect against the losses that may occur if our worst fears are realised. The irony is the most sure-fire way for investors to make consistent and substantial losses is by jumping from one high profile risk to the next, making consistently poor decisions along the way.
We have all seen the charts depicting the benefits of taking a long-term approach to equity investing. They show how markets have produced strong returns in-spite of wars, recessions, and pandemics. They are a great illustration of the benefits of a long-term approach, but they don’t tell us everything. What they fail to show is all those critical issues that worried investors but never came to pass. We are always wondering about the next great risk to markets; the key to successful investing is finding ways of drowning out this noise.
Even though we can be certain that there are some events that will cause dramatic (short-term) losses for risky assets; ignoring them is absolutely the best course of action for most long-term investors. This is for a host of reasons:
We cannot predict future events: Pre-emptively acting to deal with prominent risks that pose a threat to our portfolios requires us to make accurate forecasts about the future. Something that humans are notoriously terrible at.
We don’t know how markets will respond: We don’t only need to forecast a particular event; we also need to understand how markets will react to it. What is in the price? How will investors in aggregate react? Even if we get lucky on point one, there is no guarantee we will accurately anticipate the financial market consequences. It is worth pausing to reflect on these first two reasons. Forecasting events and their impact on markets is an unfathomably complex problem to solve. We are incredibly unlikely to succeed in it.
We are poor at assessing high profile risks: We tend to judge risks not by how likely they are to come to pass, but how salient they are. This a real problem for macro events because the attention they receive makes them inescapable, so we greatly overweight their importance in our thinking and decision making..
We need to be consistently right: Even if we strike lucky and are correct in adjusting our portfolio for a particular event, that’s not enough – we need to keep being right. Over the long-run being right about any individual prominent macro event is probably more dangerous than being wrong, because it will urge us to do it again.
If we find ourselves consistently worried about the next major risk that threatens markets, there are four steps we should take:
1) Reset our expectations: Investing in risky assets means that we will experience periods of severe losses. These are not something we can avoid. They are the reason why the returns of higher risk assets should be superior over time. We cannot have the long-term rewards without bearing the short-term costs.
2) Check we are holding the right investments: The caveat to ignoring the risks of major macro events is that we are sensibly invested in a manner that is consistent with our long-term objectives
3) Engage less with financial markets and news: There is no better way to insulate ourselves from short-term market noise and become a better long-term investor than to stay away from financial markets. Stop checking our portfolio so frequently and switch off the financial news.
4) Educate ourselves about behaviour, not macro and markets: What really matters to investors is not the latest macro event or recent markets moves, but the quality of our behaviour and decision making.
Source: Most Investors Should Ignore the Risk of Major Macro Events By Joe Wiggins
Asset Multiplier Comments:
- Macro Events are a recurring feature of the markets, trying to anticipate when they will occur, rather than accepting them as an expected feature of long-term investing, will inevitably lead to worse outcomes.
- Provided we are appropriately diversified, the real investment risk stemming from major macro events is not the issue itself but our behavioural response to it – the hasty decisions we are likely to make because of the fears we hold.
- Long Term Investors are better off not being bothered by macro events and it’d serve them well to not check their Portfolio Performance daily to avoid unwise decisions.
Disclaimer: “The views expressed are for information purposes only. The information provided herein should not be considered as investment advice or research recommendation. The users should rely on their own research and analysis and should consult their own investment advisors to determine the merit, risks, and suitability of the information provided.”