III. Function Focus – Investing as Foresight Practice
We won’t go deep into most of the Twenty Specialty Functions of foresight in this first edition of the Guide. But let’s briefly discuss just one of the twenty for now, Investing, as practicing it will not only make you better at organizational anticipation, it will improve your financial ability to affect positive change with your family, your favorite organizations, and the world, and perhaps even achieve financial independence over the long run.
The anticipation skill is underdeveloped in many current foresight practitioners, for a variety of reasons we discuss elsewhere in this guide. In the long run, collective forecasting platforms (e.g. the Good Judgment Project), Bayesian polling platforms (see Silver’s The Signal and the Noise, 2012), predictive analytics platforms (see Siegel’s Predictive Analytics (2012) and other software will help us do better anticipation. But as good as such platforms may one day become, they will always be complemented by our individual intuitive anticipation abilities. If you have an interest in business in any industry, you can start personally improving your organizational assessment and anticipation skills right now by Investing.
Investing as Foresight Practice
Investing, and teaching your children and friends to invest, is one of the classic ways people can put their anticipation skills to the test. The great investors are all foresight leaders to some degree, and a good study of their habits will help you improve your business and personal foresight skills as well. There are two types of investing, Fundamentals/Value/Long-term and Speculative/Short-term (six months or less). Once you have enough saved and enough personal insurance to cover catastrophes, you might choose to be involved in both, as each will teach you different things. An asset mix that is commonly recommended is 80% conservative and 20% speculative.
For conservative investing, two books are often recommended as good starting primers. The first is Andrew Tobias’s brilliant The Only Investment Guide You Will Ever Need (2011), which explores how saving, and cultivating a great understanding of the value of money, is by far the most important life skill for any investor. The next great thing to learn is passive investment strategies (approaches that take very little of your precious time and energy to implement). For that, see Rowland and Lawson’s The Permanent Portfolio (2012), a strategy developed by the late investment analyst Harry Browne. I’ve been using a modified version of Browne’s strategy for my conservative investing for several years now.
An asset-class-diversified approach like the permanent portfolio may be the best way to capture the growing financial value of our planet’s accelerating technical productivity, without being an active investor or trader. The Permanent Portfolio’s four asset classes are Index Stocks, Long-Term Treasury Bonds, Gold, and Cash. For some data on the portfolio’s performance, see Crawling Road’s 40-year retrospective study on its returns, which average 6 to 9% a year, depending on assumptions in calculations. That is a great return for a passive investment strategy, and it requires your looking at your investment portfolio and “rebalancing it” equally between the four investment classes just once a year. That’s something anyone can do.
One way you might further improve the Permanent Portfolio strategy would be to substitute or supplement potentially better versions of the above asset classes. For example, you might swap Technology Stocks for Index Stocks, your Favorite Country or Company’s Bonds for Treasury Bonds, Commodities for Gold, and the currencies of fiscally conservative countries like Switzerland, Norway, or Singapore for US Dollars. These changes would make your investments less diverse and more risky. To counter that, you might also add new asset classes not included in Browne’s original four-class approach, such as Real Estate, through REITS or some other passive vehicle. For example, you might invest 20% of your conservative assets in each of five of the asset classes listed above.
You could stop with a passive strategy like the permanent portfolio, but I think you will learn the most about both yourself and the world by also engaging in active (speculative) investing with a small fraction of your funds, and by participating in an investing learning organization like the CFA Institute or the American Association of Individual Investors.
Whether or not your short-term (six month or less) bets pay off, doing a little speculative investing on a continual basis will motivate you to understand, learn, and potentially profit from specific business changes going on in the world. Active investors, whether full-time (“traders”) or part-time (most foresight professionals) profit by gaining superior market intelligence and learning (knowing what’s going on) in their area of interest, better strategic agility (ability to execute faster than the average investor), good risk management (hedging strategies), and often, better-than-average anticipation skill and forecasting abilities. These are all useful skills for a foresight professional, in general.
By understanding relevant hard trends and “starting with certainty” as distinguished futurist Daniel Burrus recommends, even the part-time active investor can intermittently find and take early advantage of major market changes, as when a relatively unknown firm becomes the early leader of an inevitable new business category (Wise.io for machine learning as a service, Netbase for social media marketing analytics, Piqora for visual web analytics, etc.). As strategic foresight investment professional James Lee of StratFI reminds us, being among the early group to see convergence of key trends and developments, all pushing in the same direction, is another way anticipation can help us. Many independent and converging trends and developments were pushing to make Amazon the early leader in online shopping, Apple’s iPhone the early leader in smartphones, Netflix the early leader in streaming video, and Bitcoin an acceptable alternative store of value. Looking ahead, we see many more convergences coming (hyperlocal location based services, B2B rapid prototyping, drone video services, etc.). Being early to see any high-probability convergence, and finding investable momentum leaders can be highly profitable.
Lee proposes we answer four questions when investing:
- What? What industry sectors, products, services or asset classes are poised to create value?
- How? Which companies, assets, or instruments can best allow us to participate in this value?
- When? When should you enter and exit an investment, given market, media, and sentiment cycles?
- Why? Why are you investing, and what constitutes acceptable risk and financial success for you?
When forecasting, most successful investors follow J. Scott Armstrong’s maxim that a good forecast should be conservative. Most are also contrarian, meaning they know how to find out when the majority is acting foolishly, and when it is a good time to bet against them. Many times you may not know the future, but you can more easily know when others are acting riskily, and making unlikely bets. Finally, the best short-term investors are active learners, about themselves and the world, and they learn how to find methods that work for their psychology.
A special few active investors have consistently beat the market average in returns, and those who do deserve to be studied, for general life and psychology lessons they offer in profiting from uncertainty and volatility. You might enjoy the very dated but fun documentary Trader (1987) which follows Paul Tudor Jones (then 32 years old), a young asset manager whose firm predicted and tripled its assets during the 1987 stock market crash, which happens during the film. To do this Tudor Jones used a very simple forecasting tool called Elliott Wave analysis, a rule-of-thumb for predicting crowd psychology cycles over time (see picture right). Knowing when to use this or any other chartist tool is of course much more art and intuition than science.
Jack Schwager’s book Market Wizards (2012), an update of the famous 1988 original, is a great study of successful traders, and a good introduction to their way of thinking. What may stop some small investors from speculative investing is the knowledge that top investors, like Tudor Jones, now a multibillionaire managing an algorithmic trading system, will always have superior speed of execution. But top traders’ need to manage large funds is also a trap, as their trades influence the market far more than they would like. Wealthy traders also don’t always have superior market intelligence, or the hunger to learn, and their much-touted algorithms don’t provide superior forecasting ability in most market conditions.
Finally, it helps to remember that to be reasonably successful in speculative investing, as with most things in life, you don’t need to be better than the best, just better than most, a condition worth striving for. If you make lots of small bets, and treat every speculation as a learning experience, you will gain much from it, particularly the ability to quickly sum up a situation and make a decision (“take a position” in trader speak). With practice you will improve your ability to quickly see and profit from patterns, as long as you stay in the game.
Financial foresight is a marketable commodity, and even systems as chaotic as the weather and markets have regularly predictable patterns. Lo and MacKinlay’s A Non-Random Walk Down Wall Street (2001), makes a good case for the market’s partial predictability. Market movement is random to a first approximation (on average), but as human nature is very slow to change, and is itself partly predictable, we can always find and profit from predictable patterns, trends, and cycles in markets and other economic, social, political, and technological systems driven partly by human psychology. Good luck and happy trading!