There’s nothing new about uncertainty
By Barry Ritholtz,
Back in fall 2010, one of those absurd memes began circulating in think tanks, on the Internet and around trading desks regarding the impact of uncertainty. “Oh no!” declared pundits. “The economy cannot recover so long as it is racked with uncertainty.”
Not coincidentally, the first go-round was right before the midterm elections in the United States. The “uncertainty trope” is back again, and — what a surprising coincidence! — during another election year.
Indeed, Google Trends reveals that there is a pattern to the media use of the term “uncertainty.” It starts high in the beginning of the year, as media outlets trot out their year-in-preview pieces. It hits its nadir over the summer as families vacation and the latest fun and sun articles are de rigueur. It ramps up to a distinct peak in October and November, just as voters head to the polls in state, local and federal elections. In a fairly evenly divided country, there is surely uncertainty about election contests. Then it bottoms out around the holidays. While you may not know what you are getting for Christmas, Google’s not high on “uncertainty” either.
Uncertainty has become a news media darling since 2008. The recession, credit crisis and market collapse drive lots of interest in the idea.
It does not take much deep thought to recognize the utter nonsense of this. Anyone complaining about a lack of certainty — in policy, in the economy, in markets or even the weather — simply reveals how little they understand about all of these things.
From the investor’s perspective, markets require uncertainty to function. Indeed, they thrive on doubt, imperfect information and a lack of consensus. Uncertainty drives the market’s price-discovery mechanism. Investing requires differences of opinion, for when there is broad agreement about an asset’s fair value, trading volume falls.
Without uncertainty, who would take the opposite side of your trade?
History teaches us that whenever the opposite occurs — when groupthink and consensus overwhelm doubt — the herd tends to be embarrassingly wrong. In those rare instances when there is a near-total lack of uncertainty in the market, the outcome usually is a spectacular disaster.
Think of the false certainty surrounding the peak of the dot-com bubble (profits don’t matter!), or the nadir in March 2009 (the abyss awaits!) to validate just how true this is.
Indeed, during the dot-com era, everyone knew that profits no longer mattered — it was all about eyeballs and clicks! With uncertainty banished, an epic crash followed.
After that implosion, the pendulum swung to the opposite extreme. There were lots of profitable, debt-free tech companies trading for less than book value. I recall that the stock of MicroMuse, a former high-flying telecom that had traded for more than $200 at its peak, was trading at $1.43. That was less than the $2-a-share cash it had on its debt-free balance sheets and far below its $3 book value. Investors had become certain that a dollar was worth only 75 cents. (IBM eventually bought MicroMuse for more than $10 a share).
The March 2009 stock-market lows were not so long ago. At the time, nearly everyone was sure the world was falling into the abyss. There was little uncertainty then, causing massive and indiscriminate selling. I wonder whether those certain panicked sellers are happy they followed the consensus on dumping equities ahead of a 109-percent rally.
Caroline Baum, the savvy longtime economics observer and Bloomberg columnist, notes: “The future is always uncertain. It was uncertain in 1999, yet investors were buying stocks of Internet companies that had no revenue, no profits and no real business plan. It was uncertain during the condo-flipping frenzy in 2005, as well. And no one mistook irrational exuberance for uncertainty.”
Since then, the uncertainty trope has become the general catch-all for explaining (or mis-explaining) a variety of future events. The list of uncertainties is long: The fiscal cliff, U.S. tax policy, health-care laws, what happens in Greece, will we have a recession next year or not, is housing recovering, what happens to the euro zone, will the euro currency collapse, what about the U.S. elections?
I recall no one saying that investing was difficult due to the uncertainty caused by a potential nuclear conflagration between the United States and the Soviet Union during the Cold War. The sword of Damocles hung over everyone’s head. Is the Greek situation today more dire or uncertain than the policy of mutually assured destruction ever was?
Regardless, all of these unknown events will be resolved one way or another at some point in the future. Which is, of course, how all ambiguities eventually get resolved — at some future unknown date. That is why the uncertainty claim is so absurdist. The lack of understanding today of an unknowable future always gets revealed as the future becomes known to us.
This is how things unfold in a linear timeline.
It finally dawned on me what the uncertainty trope is all about. It took a conversation with a nervous chief executive to reveal it, but I teased out the answer.
Most of the time, people exist in a happy little bubble of self-created delusion. We engage in selective perception, seeing only the things that agree with us. Our selective retention retains the good stuff and disregards most of the rest. In our minds, we are all younger, better-looking, slimmer, with more hair than the camera reveals.
In short, we construct a reality that bears only passing resemblance to the objective universe.
During those brief instances when the facade fades, the curtain gets pulled back and the ugly reality becomes clear. We get a glimmer of understanding about our own lack of understanding. That’s when the grim reality of the human condition is revealed — and it terrifies us.
The next time you hear someone mention uncertainty, ask yourself this: How much less do they actually know about the future today vs. what they knew last week or year? How much less do they think they know?
We need only consider the track record of Wall Street’s prognosticators to recognize how little we know about what awaits down the line.