Amazon founder Jeff Bezos is often asked, “What’s going to change in the next 10 years?” But he rarely is asked, “What’s not going to change?” According to Bezos, the second question is actually the more important of the two.
Change is inevitable. New inventions appear…economic cycles rise and fall…powerful corporations fade—in fact, fewer than 10% of the companies that were on the original Fortune 500 list of America’s largest corporations in 1955 remain on it today.
We know change is going to happen, and we know it will affect our finances and our lives…but when we try to predict changes, we usually fail. Even experts usually fail. University of Pennsylvania professor Philip Tetlock asked 284 experts in various fields to estimate the probability of a range of potential future events related to their specialties, then tracked the results for two decades. Result: More than 25% of the events the experts deemed “certain” never occurred…while 15% of the things deemed “nearly or completely impossible” did.
Venture capitalist Morgan Housel suggests that we stop trying to predict what’s going to change and instead focus our forecasting efforts on a very specific set of things that can be predicted because they rarely—if ever—change. Housel’s words should carry some weight—he was named one of the 50 most influential people affecting the markets by MarketWatch in 2022, a list largely consisting of presidents, prime ministers and powerful CEOs.
Among the predictions that Housel is confident will come true—because they almost always come true—and what we can do to prepare financially…
There will be a massive shock to the economy and world in the coming decade or so that few will see coming. The pandemic was the sort of once-a-century event that’s extremely difficult to predict. While it wasn’t feasible to see COVID coming, it was certain that something world-altering and economy-disrupting would happen. Why? Because something world-altering and economy-disrupting always happens. These “rare” shocks are a lot less rare than we imagine—there’s a massive war or a deep recession or another event that takes a huge toll on the world and the economy roughly once per decade. Even eras that are remembered as stable and prosperous typically feature an event that qualifies. Example: The 1950s included the recession of 1957–58, when the brand-new S&P 500 tumbled more than 20%.
Most people, including the experts, usually fail to see these events coming. Example: In 1930, when the National Economic League polled its members about the biggest problem facing the US, prohibition and disrespect for the law were among the top responses. Unemployment came in eighth. Yet one in four Americans would soon be out of work. Members of the Economic League had failed to predict the Great Depression even though it had already begun.
What to do: Increase your emergency fund. Many investors have little money in CDs, short-term bonds and bank accounts because their low yields feel like a drag on portfolio returns. But these holdings reduce the odds that you will have to pull money out of less liquid investments at inopportune times.
Caution: If you put enough money in an emergency fund to cover at least three months of expenses, it may feel like more cash than you need most of the time. That’s because it is more than you need, but this isn’t for most times…it’s for that unexpected economic shock that’s on the way.
Americans’ standards of living will rise. One of the modern world’s most reliable economic trends is that things get better for most people most of the time. Medicine improves, lengthening life spans…inventions appear, some of which make life more pleasant…and items that once were luxuries become affordable. The richest man in the world 150 years ago didn’t have antibiotics, automobiles, air travel or air conditioning—now those things are within reach of virtually all Americans. When Americans reflect on the “good old days,” most think of the 1950s—but, adjusted for inflation, the median US family income in 1955 was just $29,000, versus nearly $75,000 now. Homeownership rates were 12 percentage points lower in 1950 than today, and workplace deaths were three times higher. These are the good old days, and the years ahead almost certainly will be even better. That’s just how the modern world works.
Why are we convinced things were better in the past? Because whenever life gets better, our expectations ratchet up and we take the improvements for granted. This affects investors, too—whenever stock market returns are above-average, investors start to see 10% or 15% or 20% annual returns as the baseline and look for ways to do better. Their increasing expectations lead them to take on more risk than they realize…then their portfolios fall further than necessary when the market hits an inevitable rough stretch.
What to do: The true secret to happiness in life and in investing isn’t obtaining more—it’s expecting less. If you regularly remind yourself that an ordinary American life in modern times is wonderful relative to the way things have been throughout history, there’s a good chance you’ll be happier with your life. And if you remind yourself that the S&P 500’s average annual returns of about 11% over the last 50 years are truly wonderful—the stock market as a whole had average annual returns of about 6.5% for the same time period—there’s a good chance you’ll be happier with those returns. Generating market-matching rather than market-beating returns makes you an elite investor. Example: If the large-cap stock portion of your portfolio matches the return of the S&P 500 over a 15-year period, you’re doing better than 92% of the professional money managers who run large-cap stock mutual funds. And achieving market-matching returns is within reach—you could achieve it by selecting a diversified portfolio of stocks or by simply investing in an index fund or ETF that tracks a market. Don’t put excessive amounts into a stock or mutual fund because it has delivered market-trouncing returns in recent years—those high-flyers often fall back to Earth. Example: In 2008, Ken Heebner of Capital Growth Management was dubbed “America’s hottest investor.” Last year, his funds ceased operations following prolonged underperformance.
Prominent economists’ predictions about the odds and duration of future recessions will fail to pan out. The economists aren’t bad at their jobs. It’s just that there isn’t sufficient modern data about recessions to make accurate predictions or even know which economists are skilled at predicting them. The more data economists have, the more accurate their conclusions are likely to be. If an event has occurred a million or even a thousand times in recent history, that’s a lot of data for economists to dig into to help predict when it will occur again. But there have been only seven recessions in the past half-century…and only three of those recessions have occurred in the past 30 years, so even an experienced economist will have made only a few such predictions in his/her career. Does an economist’s strong track record mean his future predictions should be trusted…or has he just been lucky?
What to do: Don’t base financial moves on economists’ recession warnings. In fact, it isn’t wise to put great confidence in any expert’s predictions. Following their advice gives us a sense of certainty, but that’s often an illusion.
Investors longing for prolonged stability will be disappointed. Prolonged stretches of stability are highly unlikely because stability causes instability. It works like this—economic stability makes people optimistic…optimistic people take on debt…and excessive debt makes the economy unstable.
What to do: View periods of economic instability as an inevitable part of the economic cycle, not an excuse to pull your money out of the markets because “things are crazy right now.” “Crazy” doesn’t mean the system is broken—it’s a normal part of the system and an unavoidable cost of investing.
The worst events will produce some of the most impressive advances. The Great Depression devastated the economy for a decade…but it was the greatest period of productivity growth in American history. World War II cost more than 400,000 Americans their lives…but medical advances that resulted from the war might have saved more lives than were lost, according to the head of the US Office of Scientific Research and Development. The urgency created by bad times often leads to great leaps forward. This doesn’t mean that wars and depressions are good—they are unquestionably horrible—but it highlights that the pessimism for the future that’s often bred by troubled times can be way off the mark.
What to do: Save like a pessimist…invest like an optimist. One challenge we face is that becoming optimistic or pessimistic can cause problems—we need to be both. We need to build a nest egg and safety net to protect us in bad times even if we see blue skies ahead…and we need to keep a significant portion of our money in the markets even if we see clouds on the horizon.