by David Robertson, CFA
February 2017
New actions and policy proposals by the Trump administration are being met with the same political polarization evident in the presidential campaign. Some are critical of nearly every proposal regardless of its potential efficacy and some are accepting of nearly every utterance, regardless of how tenuous.
Whether the issues are about immigration, taxes, infrastructure spending, healthcare or something else, how can investors assess policy ideas on their merits when nearly every report sounds like someone cheering for their favorite football team? How can investors evaluate ideas when commentary is made through the jaded eyes of its beholder?
This cacophony of opinions is taking its toll on people of all political persuasions. The Financial Times highlighted a recent report by the American Psychological Association report [here] that showed, "the first significant increase in anxiety since the national survey was launched 10 years ago," and found that "66 per cent [of Americans] were anxious about the future of the nation."
Perhaps partly due to this increasing level of anxiety, many people who had been reasonably content with things have become much more engaged, a point that geopolitical expert Ian Bremmer described succinctly [here]. Regardless of the causes, the net effect has been to add even more fuel to the fire of political passions.
To some extent it shouldn't be surprising that a high noise level might exist when there is a great deal of political polarization. As Carol Tavris and Elliot Aronson note in their book, Mistakes Were Made, But Not By Me, "the reasoning areas of the brain virtually shut down when participants were confronted with dissonant information, and the emotion circuits of the brain lit up happily when consonance was restored."
In other words, most people react to different views emotionally rather than intellectually. They don't even try to figure out the differences - and this has consequences.
As Tavris and Aronson describe, "In a sense, dissonance theory is a theory of blind spots - of how and why people unintentionally blind themselves so that they fail to notice vital events and information that might make them question their behavior or their convictions. Along with confirmation bias, the brain comes packaged with other self-serving habits that allow us to justify our own perceptions and beliefs as being accurate, realistic, and unbiased. Social psychologist Lee Ross calls this phenomenon 'naive realism,' the inescapable conviction that we perceive objects and events clearly."
It is certainly not hard to see how decision making behavior can be impaired when "the reasoning areas of the brain shut down", but that isn't the only risk in a chaotic environment. Michael Mauboussin has shown how we also have a tendency to rely too heavily on information that is "close at hand", an insight we highlighted a few years ago [here]. This tendency can create a great deal of bias too.
As Mauboussin describes in a more recent piece [here], "With the inside view, we tend to rely on our own information and perception. The outside view considers a problem as an instance of a larger reference class and appeals to the base rate of past occurrence. While both are important in good judgment, psychologists have shown that we commonly rely too much on the inside view. Making individuals aware of the outside view can help reduce this bias."
One of the ways we try to employ an outside view is to assess perspectives and evaluations from outside the US. By this standard, there is plenty of evidence to disabuse the notion that things have been humming along nicely.
For example, The Economist noted [here] that foreign firms have a decidedly less emphatic view of the US than they used to: "Which is it? The home of free speech, the rule of law and the rich world's most dynamic economy? Or a land of social decay, septic politics and the rich world's worst roads and schools?"
Ed Luce provided some useful perspectives in his book, A Time to Start Thinking. He told the story of how Brad Avakian, who was on an official visit to Taiwan as Oregon's labor commissioner, got some unexpected exposure to outside views: "One evening his hosts took him out for a drink. They began to unwind. The conversation turned to America. 'These guys were literally laughing at America,' Avakian said ... 'I realized when they let their guard down that they saw America as a joke,' he said. 'It was a real shock to me'."
A more recent example by the Financial Times [here] highlights an outside view of an early incident with the Trump administration: "The man from the BBC was laughing as he reported the White House's false claims about the size of the crowd at Donald Trump's inauguration. He should have been crying. What we are witnessing today is the destruction of the credibility of the American government."
The main point of highlighting these perspectives is to provide a "larger reference class" by which to judge events. Regardless of whether one agrees or disagrees with these perspectives, this mosaic view of how the rest of the world views the US gives some indications of how other countries and people will act. As the FT noted, "But how will America be able to rally support, in the Trump era, if its allies no longer believe what the US president and his aides have to say?"
Another great way to "expand the reference class" is by studying history and a person who is both well-versed in history and replete with global perspective is Russell Napier. He highlights a core risk for investors in the Financial Times [here], "The big problem for many investors at the moment is that the information they accumulated during a quarter of a century of global disinflation is just not relevant anymore."
Napier goes on to describe in the FT [here], "However the simple truth is that it is too late for the free markets. The roll back of the free market has already begun, driven by the necessity to support a fragile teetering tower of public debt." He elaborates on his position in a recent Realvision TV interview: "For roughly three decades now credit has been growing double to three times as fast and nominal GDP. Now in that world any idiot can make money, and that's what’s been happening. Many idiots have been making money."
It's hard to overstate how important the implications of this insight are. For one, evaluating policy prescriptions based on an assumption of completely free markets will yield erroneous results. Investors must understand that they are in a different game now; the paramount goal of public policy is to moderate the debt burden by creating inflation. As such, many old investment tools and practices are now worse than useless; they are outright dangerous.
As Napier elaborates, government is coming in to finish the job of creating inflation that central banks could not. He notes, "People very, very wrongly get excited about this, they say, 'oh, it's going to be a fiscal answer'," and follows with the assessment, "To me it's bizarre that people who are the stewards of other people's capital are getting excited because the government is coming."
One of the general lessons to be taken is that while there is often little information content in the news bits and opinions flying back and forth, the noise level as a whole tells us something. Tavris and Aronson noted, "When things are going well, people feel pretty tolerant of other cultures and religions -- they even feel pretty tolerant of the other sex! -- but when they are angry, anxious, or threatened, the default position is to activate their blind spots." As a result, it is fair to conclude that the amplified noise level surrounding public policy is a symptom of deeper problems that are making people angry, anxious and threatened.
R.P. Eddy, an expert on international affairs and national security, picked up on a similar thread in another Realvision TV interview. He noted, "When we begin to feel like we are under attack ... we then revert to type ... we become much more tribal." He added that there are "leaders preying on this" and that, "There are people out there who are selling pressure; they are out there selling divisiveness."
Such an opportunity to "sell pressure" exists in part due to the fact that many people are not very well informed of issues. As Luce notes in his book, "Today it sounds quaint but in the Federalist Papers James Madison cautioned that a democracy needed an informed citizenry if it was to flourish. ‘A people who mean to be their own governors must arm themselves with the power knowledge gives,’ wrote Madison."
How do we build that knowledge? As if to answer, Eddy notes, "What that means is we have to be able to speak truth about what's actually happening." Part of "speaking truth" involves calling out much of current commentary for what it is - cheerleading - and to filter it out. Part of the effort involves making sure that we “notice vital events and information,” which can be aided by Mauboussin's suggestion to consider the outside view.
Yet a third method is that of scientific reasoning, which Tavris and Aronson recommend. In their words, "Scientific reasoning is useful to anyone in any job because it makes us face the possibility, even the dire reality, that we were mistaken. It forces us to confront our self-justifications and put them on public display for others to puncture." Unfortunately, this remedy is far too uncommon in today's press.
Investment knowledge can be built the same way and serve the same purpose. As Napier says, "Investors ... prepared to learn the lessons of history will have a decided advantage in the search for positive real returns." This is especially relevant since the nature of many of today's challenges fall outside the experience of virtually every living investor.
One of the lessons of history Napier tells us is that, "A government in dire straits can depress returns on a very wide range of domestic assets." Years after the financial crisis, not only has the debt problem not been solved, it has gotten worse. While it is still useful to evaluate the potential impact of policies on markets, it is crucial for long term investors to appreciate the bigger game: When push comes to shove and the burdens of debt begin to threaten the re-election of politicians, they won’t care so much about your asset returns. As a result, investors would do well to resist the temptation to chase returns.
Another lesson of history that Napier revealed at a CFA Institute annual conference, which we documented [here], is that, “There is no end to the deviousness of a government on the verge of bankruptcy.” This is a warning investors should take seriously. In the absence of significant improvement, policies such as onerous taxes, capital controls, bank holidays and a whole host of others may seem impossible today, but are possible, and arguably even likely, over a longer time frame.
Finally, Bill Gates gave some good advice that is useful to anyone trying to plan over a long time horizon. He said, "We always overestimate the change that will occur in the next two years and underestimate the change that will occur in the next ten." He completed the thought with a useful warning, "Don't let yourself be lulled into inaction."
February 2017
New actions and policy proposals by the Trump administration are being met with the same political polarization evident in the presidential campaign. Some are critical of nearly every proposal regardless of its potential efficacy and some are accepting of nearly every utterance, regardless of how tenuous.
Whether the issues are about immigration, taxes, infrastructure spending, healthcare or something else, how can investors assess policy ideas on their merits when nearly every report sounds like someone cheering for their favorite football team? How can investors evaluate ideas when commentary is made through the jaded eyes of its beholder?
This cacophony of opinions is taking its toll on people of all political persuasions. The Financial Times highlighted a recent report by the American Psychological Association report [here] that showed, "the first significant increase in anxiety since the national survey was launched 10 years ago," and found that "66 per cent [of Americans] were anxious about the future of the nation."
Perhaps partly due to this increasing level of anxiety, many people who had been reasonably content with things have become much more engaged, a point that geopolitical expert Ian Bremmer described succinctly [here]. Regardless of the causes, the net effect has been to add even more fuel to the fire of political passions.
To some extent it shouldn't be surprising that a high noise level might exist when there is a great deal of political polarization. As Carol Tavris and Elliot Aronson note in their book, Mistakes Were Made, But Not By Me, "the reasoning areas of the brain virtually shut down when participants were confronted with dissonant information, and the emotion circuits of the brain lit up happily when consonance was restored."
In other words, most people react to different views emotionally rather than intellectually. They don't even try to figure out the differences - and this has consequences.
As Tavris and Aronson describe, "In a sense, dissonance theory is a theory of blind spots - of how and why people unintentionally blind themselves so that they fail to notice vital events and information that might make them question their behavior or their convictions. Along with confirmation bias, the brain comes packaged with other self-serving habits that allow us to justify our own perceptions and beliefs as being accurate, realistic, and unbiased. Social psychologist Lee Ross calls this phenomenon 'naive realism,' the inescapable conviction that we perceive objects and events clearly."
It is certainly not hard to see how decision making behavior can be impaired when "the reasoning areas of the brain shut down", but that isn't the only risk in a chaotic environment. Michael Mauboussin has shown how we also have a tendency to rely too heavily on information that is "close at hand", an insight we highlighted a few years ago [here]. This tendency can create a great deal of bias too.
As Mauboussin describes in a more recent piece [here], "With the inside view, we tend to rely on our own information and perception. The outside view considers a problem as an instance of a larger reference class and appeals to the base rate of past occurrence. While both are important in good judgment, psychologists have shown that we commonly rely too much on the inside view. Making individuals aware of the outside view can help reduce this bias."
One of the ways we try to employ an outside view is to assess perspectives and evaluations from outside the US. By this standard, there is plenty of evidence to disabuse the notion that things have been humming along nicely.
For example, The Economist noted [here] that foreign firms have a decidedly less emphatic view of the US than they used to: "Which is it? The home of free speech, the rule of law and the rich world's most dynamic economy? Or a land of social decay, septic politics and the rich world's worst roads and schools?"
Ed Luce provided some useful perspectives in his book, A Time to Start Thinking. He told the story of how Brad Avakian, who was on an official visit to Taiwan as Oregon's labor commissioner, got some unexpected exposure to outside views: "One evening his hosts took him out for a drink. They began to unwind. The conversation turned to America. 'These guys were literally laughing at America,' Avakian said ... 'I realized when they let their guard down that they saw America as a joke,' he said. 'It was a real shock to me'."
A more recent example by the Financial Times [here] highlights an outside view of an early incident with the Trump administration: "The man from the BBC was laughing as he reported the White House's false claims about the size of the crowd at Donald Trump's inauguration. He should have been crying. What we are witnessing today is the destruction of the credibility of the American government."
The main point of highlighting these perspectives is to provide a "larger reference class" by which to judge events. Regardless of whether one agrees or disagrees with these perspectives, this mosaic view of how the rest of the world views the US gives some indications of how other countries and people will act. As the FT noted, "But how will America be able to rally support, in the Trump era, if its allies no longer believe what the US president and his aides have to say?"
Another great way to "expand the reference class" is by studying history and a person who is both well-versed in history and replete with global perspective is Russell Napier. He highlights a core risk for investors in the Financial Times [here], "The big problem for many investors at the moment is that the information they accumulated during a quarter of a century of global disinflation is just not relevant anymore."
Napier goes on to describe in the FT [here], "However the simple truth is that it is too late for the free markets. The roll back of the free market has already begun, driven by the necessity to support a fragile teetering tower of public debt." He elaborates on his position in a recent Realvision TV interview: "For roughly three decades now credit has been growing double to three times as fast and nominal GDP. Now in that world any idiot can make money, and that's what’s been happening. Many idiots have been making money."
It's hard to overstate how important the implications of this insight are. For one, evaluating policy prescriptions based on an assumption of completely free markets will yield erroneous results. Investors must understand that they are in a different game now; the paramount goal of public policy is to moderate the debt burden by creating inflation. As such, many old investment tools and practices are now worse than useless; they are outright dangerous.
As Napier elaborates, government is coming in to finish the job of creating inflation that central banks could not. He notes, "People very, very wrongly get excited about this, they say, 'oh, it's going to be a fiscal answer'," and follows with the assessment, "To me it's bizarre that people who are the stewards of other people's capital are getting excited because the government is coming."
One of the general lessons to be taken is that while there is often little information content in the news bits and opinions flying back and forth, the noise level as a whole tells us something. Tavris and Aronson noted, "When things are going well, people feel pretty tolerant of other cultures and religions -- they even feel pretty tolerant of the other sex! -- but when they are angry, anxious, or threatened, the default position is to activate their blind spots." As a result, it is fair to conclude that the amplified noise level surrounding public policy is a symptom of deeper problems that are making people angry, anxious and threatened.
R.P. Eddy, an expert on international affairs and national security, picked up on a similar thread in another Realvision TV interview. He noted, "When we begin to feel like we are under attack ... we then revert to type ... we become much more tribal." He added that there are "leaders preying on this" and that, "There are people out there who are selling pressure; they are out there selling divisiveness."
Such an opportunity to "sell pressure" exists in part due to the fact that many people are not very well informed of issues. As Luce notes in his book, "Today it sounds quaint but in the Federalist Papers James Madison cautioned that a democracy needed an informed citizenry if it was to flourish. ‘A people who mean to be their own governors must arm themselves with the power knowledge gives,’ wrote Madison."
How do we build that knowledge? As if to answer, Eddy notes, "What that means is we have to be able to speak truth about what's actually happening." Part of "speaking truth" involves calling out much of current commentary for what it is - cheerleading - and to filter it out. Part of the effort involves making sure that we “notice vital events and information,” which can be aided by Mauboussin's suggestion to consider the outside view.
Yet a third method is that of scientific reasoning, which Tavris and Aronson recommend. In their words, "Scientific reasoning is useful to anyone in any job because it makes us face the possibility, even the dire reality, that we were mistaken. It forces us to confront our self-justifications and put them on public display for others to puncture." Unfortunately, this remedy is far too uncommon in today's press.
Investment knowledge can be built the same way and serve the same purpose. As Napier says, "Investors ... prepared to learn the lessons of history will have a decided advantage in the search for positive real returns." This is especially relevant since the nature of many of today's challenges fall outside the experience of virtually every living investor.
One of the lessons of history Napier tells us is that, "A government in dire straits can depress returns on a very wide range of domestic assets." Years after the financial crisis, not only has the debt problem not been solved, it has gotten worse. While it is still useful to evaluate the potential impact of policies on markets, it is crucial for long term investors to appreciate the bigger game: When push comes to shove and the burdens of debt begin to threaten the re-election of politicians, they won’t care so much about your asset returns. As a result, investors would do well to resist the temptation to chase returns.
Another lesson of history that Napier revealed at a CFA Institute annual conference, which we documented [here], is that, “There is no end to the deviousness of a government on the verge of bankruptcy.” This is a warning investors should take seriously. In the absence of significant improvement, policies such as onerous taxes, capital controls, bank holidays and a whole host of others may seem impossible today, but are possible, and arguably even likely, over a longer time frame.
Finally, Bill Gates gave some good advice that is useful to anyone trying to plan over a long time horizon. He said, "We always overestimate the change that will occur in the next two years and underestimate the change that will occur in the next ten." He completed the thought with a useful warning, "Don't let yourself be lulled into inaction."
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