Prediction is Futile; Make Good Decisions in the Face of Uncertainty

Prediction Futility
Prediction Futility

Prediction is a very dangerous game. You cannot predict the future, but still many desparately try. An excerpt from Trend Following:

[John W.] Henry was blunt: “I don’t believe that I am the only person who cannot predict future prices. No one consistently can predict anything, especially investors. Prices, not investors, predict the future. Despite this, investors hope or believe that they can predict the future, or someone else can. A lot of them look to you to predict what the next macroeconomic cycle will be. We rely on the fact that other investors are convinced that they can predict the future, and I believe that’s where our profits come from. I believe it’s that simple.”

Because trend following is primarily based on a single piece of data—the price—it can be difficult to paint the true story of what that really means. Henry has always been able to articulate clearly and consistently how he trades, year after year, to those willing to listen carefully. To generate his profits, he relies on the fact that other traders think they can predict where the market will go and often end up as losers. Henry will tell you that he routinely wins the losses of the market losers in the zero-sum trading game.

Think in terms of geopolitics, its the same. Consider a memo once sent to The United States President:

From Lin Wells: “Thoughts for the 2001 Quadrennial Defense Review”

If you had been a security policy-maker in the world’s greatest power in 1900, you would have been a Brit, looking warily at your age-old enemy, France.

By 1910, you would be allied with France and your enemy would be Germany.

By 1920, World War I would have been fought and won, and you’d be engaged in a naval arms race with your erstwhile allies, the U.S. and Japan.

By 1930, naval arms limitation treaties were in effect, the Great Depression was underway, and the defense planning standard said “no war for ten years.”

Nine years later World War II had begun.

By 1950, Britain no longer was the worlds greatest power, the Atomic Age had dawned, and a “police action” was underway in Korea.

Ten years later the political focus was on the “missile gap,” the strategic paradigm was shifting from massive retaliation to flexible response, and few people had heard of Vietnam.

By 1970, the peak of our involvement in Vietnam had come and gone, we were beginning détente with the Soviets, and we were anointing the Shah as our protégé in the Gulf region.

By 1980, the Soviets were in Afghanistan, Iran was in the throes of revolution, there was talk of our “hollow forces” and a “window of vulnerability,” and the U.S. was the greatest creditor nation the world had ever seen.

By 1990, the Soviet Union was within a year of dissolution, American forces in the Desert were on the verge of showing they were anything but hollow, the U.S. had become the greatest debtor nation the world had ever known, and almost no one had heard of the internet.

Ten years later, Warsaw was the capital of a NATO nation, asymmetric threats transcended geography, and the parallel revolutions of information, biotechnology, robotics, nanotechnology, and high density energy sources foreshadowed changes almost beyond forecasting.

All of which is to say that I’m not sure what 2010 will look like, but I’m sure that it will be very little like we expect, so we should plan accordingly.

It’s about process. The outcome you can’t predict.

You might like my 2017 epic release: Trend Following: How to Make a Fortune in Bull, Bear and Black Swan Markets (Fifth Edition). Revised and extended with twice as much content. Out April 24th 2017.