“Organisms that treat threats as more urgent than opportunities have a better chance to survive and reproduce”Daniel Kahneman
Kahneman, a Nobel prize winner in economic sciences, found that people respond stronger to perceived losses than gains.
So does this give investors a reason to be pessimistic towards stocks and the economy?
Whilst overall investor pessimism is not something I totally agree with, I do hear it quite often. Currently, in the midst of the COVID-19 shutdown, you only have to look at Reddit. Here are a couple of examples, Who the fuck is buying right now, Why should any American company ever act responsibly again?.
Pessimism, Optimism or Neutrality?
I’m a subscriber to Howard Marks’ analogy that investor sentiment is like a pendulum.
At one end is pure euphoria and optimism. Things will continue to get better forever.
At the other end is pure pessimism, negativity, and fear. Things will never get better and only get worse.
Assuming equal time at either end, the average is technically a happy medium in the middle. But very rarely does investor sentiment lay there. It more so swings through. Barely spending any time in the neutral sentiment position.
So why are investors always so (seemingly) pessimistic?
When talking about sports teams, How often do you find yourself picking out positives from your team’s performance? Sure maybe after a great game, they receive praise.
But I feel the default is negativity. “Should have done XYZ”. “Umpiring was a joke”. “I could have done better”.
It’s just easy. I’m guilty of this too don’t get me wrong. Finding optimism and reasons to be positive it no easy task.
And the same applies when investing. I’m willing to bet there are plenty more perma-bears than perma-bulls. Negativity overall is an easier state of mind than optimism.
“It is easier being sceptical, than being right.”Benjamin Disraeli
It’s in their Best Interest
If you’re a value investor, by default you’re looking for cheap prices to invest at. In order for things to be cheap, things aren’t going to be good. Earnings will deteriorate, stock sentiment will drop or the economy could be taking a dump. Either way good stocks usually don’t trade cheaply unless something’s not doing well.
So in order for you to buy these good stocks and be invested, you’re probably going to be pessimistic. You’re going to want things to get worse, giving you a chance to invest cheaply.
In terms of finance news being pessimistic? Well, pessimism sells. It appeals to primal fear and keeps you reading and watching. And their best interest is attracting an audience. So pessimism beats optimism.
Action and Inaction
Pessimism gives more action than optimism. You can talk on it, act on it and generally keep busy.
Optimism? You may have a small period where you’re actively buying. But after that, it’s sitting on your hands and letting compounding do its work.
You don’t really talk about your optimism on things. You just wait for your hard work to come to fruition.
Warren Buffett’s talked about inaction in his 1996 annual letter to shareholders
“Inactivity strikes us as intelligent behaviour. Neither we nor most business managers would dream of feverishly trading highly-profitable subsidiaries because a small move in the Federal Reserve’s discount rate was predicted or because some Wall Street pundit had reversed his views on the market”
And again from a 1990 letter to shareholders
“Lethargy bordering on sloth remains the cornerstone of our investment style: This year we neither bought nor sold a share of five of our six major holdings”
Buffett during those times could be described as fairly optimistic on the market’s returns. So what does he do? He does nothing. Just looks for opportunities quietly.
But talking about the market gives you something to do. And what’s easy to talk about? Negativity and pessimism. Why you’re not actively investing. Why you’re waiting for a better deal. Simply, it gives you something to do and talk about.
It Seems Smart
If optimism appears to ignore risks, then by default pessimism will seem smart by acknowledging those risks and acting on them.
Morgan Housel sums this up better than I ever can.
Optimism appears oblivious to risks, so by default pessimism looks more intelligent. But that’s a wrong way to view optimists. Most optimists will tell you things will get ugly, that we’ll have recessions, bear markets, wars, panics, and pandemics. But they remain optimistic because they set themselves up in portfolio, career, and disposition to endure those downsides. To the pessimist, a bad event is the end of the story. To the optimist, it’s a slow chapter in an otherwise excellent book. The difference between an optimist and a pessimist often comes down to endurance and time frame.
Is Pessimism Justified?
I think it’s natural (and prudent) to be sceptical when it comes to making investments. What do you see that others are seeing? What aren’t you seeing?
Under the right circumstances, of course pessimism is justified. In moderation too.
I don’t believe it’s wise to be pessimistic and cautious 100% of the time. Nor wise to be optimistic and hopeful all the time.
As Howard Marks would say, you have to calibrate and alter as circumstances change.
“Without a saving faith in the future, no one would ever invest at all. To be an investor, you must be a believer in a better tomorrow.“Jason Zweig