Even though you realize that most of your previous endeavors were overly optimistic, you believe in all seriousness that, today, the same workload – or more – is eminently doable. Daniel Kahneman calls this the planning fallacy.
We generally overestimate our capabilities so that we think that we can perform lots of work in a stipulated time frame. This fallacy leads to being liberal with a time target, and cost budget to fulfill projects in organizations. But later on, this will need to revise further. Sometimes, constant planning keeps us away from thinking about any unexpected events to occur. We need to spare good time for thinking about the occurrence of an unexpected event.
Business – When forecasting the outcomes of risky projects, executives too easily fall victim to the planning fallacy. In its grip, they make decisions based on delusional optimism rather than on a rational weighting of gains, losses, and probabilities. They overestimate benefits and underestimate costs. They spin scenarios of success while overlooking the potential for mistakes and miscalculations. As a result, they pursue initiatives that are unlikely to come in on budget or on time or to deliver the expected returns—or even to be completed.
Investment – Similar happens while we plan our investment journey, we overestimate the results of what we have planned and ignore the costs, and uncertainty associated with it. When we plan an investment, we think that the investment will perform similarly to what we planned. But we forget that there can be a black swan event which can hurt our planning. So that we should not close our eyes from occurring of black swan events while making planning.
Psychology/emotions affect corporate profits and investment cycles as well. We have seen the pendulum swings in both the extreme and investment world also moves in the same way.
Between euphoria and depression, between celebrating positive developments and obsessing over negatives, and thus between being overpriced and underpriced.
And few other observations of the pendulum – between greed and fear, between optimism and pessimism, between risk tolerance and risk aversion, between credence and scepticism, between faith in value in the future and insistence of concrete value in the present, and between the urgency to buy and panic to sell.
Above is average return but what about good and bad cycle?
When people feel good about the investment, Optimistic about it then they are in the greed and buy more which resulted in the increase of assets prices. On the other hand, when they do not feel good about the investment, pessimistic about it then sell their assets which reduces the prices of assets. Sometimes market plays between a range where greed and fear both having a stronghold.
When investors do not feel fear then prices of assets keep on raising up. Similarly happens during the tech boom 1999-2000, subprime in 2003-2007 and current scenario.
Somehow the greed evaporated and fear took over. “Buy before you miss out” was replaced by “Sell before it goes to zero.” When greed is high then people find for next Infosys, top-performing private sector banks but when fear is higher than seeing each as a next Yes bank, DHFL.
Other factors such as euphoria and depression are an extension of greed and fear. Continuing greed translated into the euphoria and fear into the depression.
When prices of assets raise then people believe in any stories prevailing in the market but reversely when prices falling then cheap assets does not get the attention of investors.
Superior investors are wise enough and they buy assets when it available at the discount from intrinsic value and there will be a potential to increase in intrinsic value.
For making such investment decisions, they need to keep a balance between greed and fear. Very few investors remain cool and unemotional to stay at the midpoint of fear & greed. Else, the majority of people remains greedy when everyone is optimistic and fearful when everyone is pessimistic. The pendulum moves from one extreme to the other and remains quiet for midpoint. For becoming a superior investor, we need to be unemotional to such swings. Emotional people will require a great deal of self-awareness and self-restraint for becoming a successful investor.
People generally remains biased with their emotions to reach any conclusion.
Many times, it has been noticed that news over both extreme – positive and negative but market keep on rising.
So that, Interpretation of the data has importance. During the depression time, positive news getting ignored and negative news only getting rewarded. Reversely, during the euphoric situation, negative news getting ignored and positive news only getting rewarded. Saving ourselves from such traps results in the superior investment returns and long-term survival of our wealth.
Disclosure – Companies mentioned in the article are just for an example & educational purpose. It is not a buy/sell/ hold recommendation.
Some category of people does not accept that cycle is unpredictable and largely unknowable, and those people put efforts for predicting the future. Few people ignore the cycle and adopt the buy & hold approach. They do not get aggressive or defensive with their investments in the cycle. Many people have wrongly understood the statement of Mr. Warren Buffett – “Our favorite holding period is forever.”
And the last category which is an appropriate approach for the investment. Such category of people accepts that cycle will occur. Everything moves in a cycle. Fundamental, psychology, prices, etc all moves in a cycle. We cannot able to know when existing trend will go, get the stop and start getting reversed. But we need to be confident enough that trend will stop sooner or later. No trend continuously keeps on going forever.
So that we should try to know where we are standing in the cycle rather than to predict timing and extension of the cycle.
By knowing where we are standing at the cycle, we cannot able to know what will be going to happen in the coming future. But we can prepare ourselves with a probability of occurrence of events.
I can’t change the direction of the wind, but I can adjust my sails to always reach my destination. – Jimmy Dean
Knowing present environment is not much hard compared to knowing future. We can come to know the present environment by observing the behaviour of participants around us, by observing our surrounding environment.
We have to focus on everyday events prevailing to the market. Such events provide us a rough idea of our position at the cycle.
When everyone is aggressive in buying a particular asset then we must have to take care and be aware of the upcoming risk. We should be aggressive in buying a particular asset while everyone is in panic and selling particular assets.
“Be Fearful When Others Are Greedy and Greedy When Others Are Fearful” ― Warren Buffett
We have to look around and think it by ourselves regarding present situations and make a decision that where we are standing in the cycle. What is market participants doing? What media is talking? Such questions need to be answered by looking at situations around us.
When too much money getting deployed into few assets then huge liquidity drives prices of an asset, such price momentum is not due to its actual fundamental. And also at the higher valuation people are ready to buy an asset aggressively. People are ready to buy Rs.100 worth of asset at Rs.200-300-400…. With the bright future expectations.
We cannot predict when huge liquidity gets dry but as a contrarian investor, we can prepare ourselves for upcoming risk.
We need to check which side majority of our answers falls and as per it, we can make an estimation of the present situation. And can able to prepare ourselves for the situations. When a majority of our answers falls at the happy situation then we have to be cautious towards the present scenario and vice-versa.