Doing Too Much

It was the worst moment in San Diego Chargers history, even worse than drafting Ryan Leaf (who, coincidentally, was released from prison this week).

On January 14, 2007 I was in the stands with my younger son watching as the Chargers (14-2 in the regular season and widely regarded as the league’s nest team) hosted the New England Patriots in the divisional round of the playoffs. The Chargers had been 8-0 at home, had five All-Pro players and had nine players elected to the Pro Bowl. The day before I had received a certified letter from the Bolts, advising me that I had won a lottery among season tickets holders and would thus be allowed to purchase Super Bowl tickets if (when!) the Chargers advanced there.

But the day didn’t turn out the way I had envisioned.

Marty Schottenheimer foolishly attempted to convert a 4^th and 11 at the New England 30 early in the game. The sure-handed Eric Parker muffed a punt, one of four turnovers in all. Drayton Florence head-butted a Patriots player and drew an unsportsmanlike conduct penalty to negate a fumble recovery for the home team. Lots went wrong, but the Chargers still had the lead late. The great LaDainian Tomlinson, who had rushed for 1,815 yards and 31 touchdowns that season, ran for 123 yards and two scores that afternoon and extended the lead to 21-13 via a touchdown run with 8:35 left in the 4^th quarter.

On the very next series, Tom Brady threw his third pick of the day. The game should have been over, but Marlon McCree tried to return the interception rather than falling to the ground while cradling the football. McCree was stripped of the ball (right); the Patriots recovered and went on to win. When the Pats proceeded to do the silly Shawne Merriman sack dance on the Chargers logo in the middle of the field after the game, it instigated a brawl.

After the game, McCree was unrepentant. “I was trying to make a play,” he said, “and anytime I get the ball I am going to try and score. …[In] hindsight I don’t regret it because I would never try and just go down on the [ground]. I want to score.”

It’s a football cliché, of course, but Marlon McCree simply tried to do too much. It happens in investing all the time too.

Earlier this week I wrote about forecasts and how silly they can be — because we’re so terrible at them. In 2014 (through November), the S&P 500 has returned 84 percent more than the median prediction of 50 prominent alleged experts. Astonishingly, that’s a lot better than last year, though still dreadful.

It’s easy to poke fun at these forecasts, of course. But the sad truth is that we are forced to make forecasts all the time, as my friend Cullen Roche has pointed out. Humans are unique in our ability to learn from the past and to imagine different outcomes and futures. Our brains are forecasting machines. We leave for work based upon how long we expect it will take to get there. We plan our Saturdays based upon how good we think that day’s college football schedule is. We create retirement savings plans, portfolios and retirement income plans based upon our forecasts of future events and expected returns. There is no way around it, which makes investing successfully really, really hard.

But we make matters worse by trying to do too much, by pushing our forecasts and our actions beyond what the data allows. At best, complex systems – from the weather to traffic to football games to the markets – allow only for roughly probabilistic forecasts with very significant margins for error and often seemingly outlandish and hugely divergent potential outcomes. Chaos theory establishes as much. If Marlon McCree just holds on to the football the Chargers almost surely win. Traditional market analysis has generally failed to grasp the inherent complexity and dynamic nature of the financial markets, which chaotic reality goes a long way towards explaining highly remarkable and volatile outcomes that seem inevitable in retrospect but were predicted by almost nobody and why active management efforts generally fail.

Therefore I offer a few suggestions – a top ten list of New Year’s resolutions, perhaps – for how to deal more effectively with the forecasts we must make without doing too much in an environment that largely precludes us from making good ones over the longer-term.

1. Be more modest about one’s forecasts and abilities generally.
2. Allow for much larger margins of error.
3. Beware apparent certainty, apparent precision and excessive complexity.
4. Lower costs and saving more matter a lot.
5. Prepare for wildly different potential outcomes (because luck has a huge impact on even the best plans), focusing on process and what can actually be controlled.
6. Look to avoid big risks and big mistakes as doing so matters much more than our successes.
7. Diversify, diversify, and diversify some more.
8. Correlation is not causation, consensus is not truth and what is conventional is rarely wisdom.
9. Set careful goals (with contingencies), review and adjust them regularly and be accountable for what happens.
10. When you’ve won the game, stop playing.

As Cullen also points out, the smartest investors know that they’re not really all that smart. They recognize that they’re going to be wrong and wrong a lot. Their forecasts won’t be very good very often. But they also recognize that they don’t have to be right all the time or even nearly all the time to reach their goals. They simply have to avoid big mistakes and be right about the important stuff when it matters.

For too many of us too often, investing (and not just forecasting) is a Kobayashi Maru — a no-win situation. If we’re going to win, we need to resist the urge to try to do too much.