Many events seem obvious in hindsight. This is known as "hindsight bias," a documented psychological phenomenon where people claim that an outcome was obvious or predictable after the fact. It's also known as the "I knew-it-all-along" effect.
Unfortunately, hindsight bias can have a real detrimental effect on investing. Since people overestimate how predictable the past was, they also tend to be overconfident in their forecasts of the future. Yet, time and time again, reality doesn't match expectations.
In December of 2010, Barclays Capital released a Global Macro Survey featuring the collective forecasts of over 2,000 institutional investors. The consensus pick was that equities (stocks) would be the top-performing asset for 2011 (with 40% support), followed by commodities (34%). Fewer than 10% of the institutional "experts" surveyed selected bonds as their choice for the winning asset. As for how well stocks would perform, the consensus prediction for the S&P 500 index was a gain of 15% for the year.
Looking back, we know that reality turned out quite differently than these experts predicted. Global stocks and commodities both had negative returns for the year, while bonds were the hero asset class for 2011. The S&P 500 had a return of just over 2%, nearly 13 percentage points below the survey consensus. Simply put, following the expert forecasts for 2011 was not a good approach.
Certainly investing would be so much more profitable if we only owned the "good stuff." But therein lies the rub. Past winners are quite easy to identify, but the future isn't at all clear. Hindsight may be 20/20, but the past is gone and it's the future that matters when it comes to investing.
We (along with the experts) may think we have a good idea of what to expect in the months or even years ahead, but reality has a way of messing up even the most logical forecast. When it comes to anticipating changes in interest rates, currencies, and overall economies, all of the analysis and assumptions can go out the window pretty quickly.
The bright side is that we don't need a crystal ball for successful investing. Trying to guess the top asset class for the year ahead isn't necessary (thank goodness). What is necessary is a sound investment policy and a properly structured portfolio to prepare for life's curveballs. It may not be as exciting as trying to forecast the future, but it's clearly the right approach.