Faulty Political Analysis May Lead To Investment Bubble

| About: SPDR S&P (SPY)

Introduction

When one finds oneself in a hole the prescription to get out is not to dig deeper! Many are digging deeper with the same shovel of faulty analytical techniques that led them to be wrong on the last three 2016 elections of BREXIT, the Colombian referendum, and the US elections. To compensate for being wrong, they have quickly become stock market Bulls by taking the Republican presidential candidate's every statement as a list of future accomplishments.

Insufficient Analysis Leads to Mistakes

Most of the time, the side that either has deeper analysis or brings a superior way of thinking will have a distinct advantage. In each of the three missed elections what started as a generally accepted expected outcome gradually lost polling support but still appeared to be dominant. There were four critical mistakes in accepting the presumed premise.

1. Reports of trends are often behind the times, the reality is people do not freeze their views when polled. One of the most useful times I spent at the racetrack was after watching a race that did not turn out as expected. Sitting in the grandstand near a group of bettors I heard them explain how they picked the winner. Some of these lessons that I later applied to picking securities and funds include:

  • Conditions are different than the past
  • New talent vs. established players
  • Signs of improvement or deterioration which could change present and future rankings
  • Competitive mix now
  • Better prepared than other entries

Any and all of these are also relevant to political forecasting.

2. The data set was incomplete, missing some intensive sub-groups, e.g., "The missing barking dog," - as per Sherlock Holmes.

3. "Check the box mentality" is efficient, cheap, and often wrong on controversial views. Only after physical conversations, including body language, does one get the deep seated feelings of an individual, including levels of doubts.

4. The political classes use identity politics as all-encompassing motivational decision making. This mistake came from the liberal arts instructors in our scholastic system not understanding that the concept of identity came from their algebra class when two mathematical expressions, while different, are deemed to have the same value; x+y=a+b. While at the moment they may be equal that doesn't mean that for all time they will be. Further x,y,a, and b may not be completely interchangeable under all conditions, e.g.; working at all, at low pay, high pay, receive meaningful psychic income, near retirement, starting out with or without family, living in a good city, a dangerous city, small town, rural area, have deep or little religious belief, etc.

From an investment standpoint, this is the same mistake (using over-simplistic investment tools) as many are making investing in Index funds and other relatively fixed portfolios as a way to invest in a dynamically changing investment world.

In terms of the US elections, some saw the probability of a Republican sweep, including key electoral votes. According to Barron's, my old friend Bill Priest at the time of their Round Table meeting in 2016 believed that Trump would win. Having known Bill for about 40 years I am not surprised with his judgment. He looks at data deeply seeing what is actually there and what is missing. (Those traits made him a good little league baseball coach for his and one of my sons.)

Compounding the Error

To make up for the emotional loss of face to themselves and their clients as well as their media audiences, many needed to act. Thus, they invested whatever reserves they had as well as moving out of conservative holdings into high momentum stocks. These stocks were moving on the faulty analysis of using what the winning candidate said along the way. As with the reliance on misreading polling data particularly in terms of supposed identity politics, they created a view as to what the new US Administration and Congress would deliver.

Any careful reader of political history going back to the Roman Republic, and to our own Founding Fathers, as well as Abraham Lincoln understands that little if any of the more controversial views get executed as planned. While we all revere "Honest Abe Lincoln" one can see a fine political mind at work. In 1858, he and Steven Douglas ran for the US Senate, the campaign included seven debates moving from the northern part of their home state of Illinois to the southern portion.

While the Douglas rhetoric remained relatively consistent, our future president modified his as he moved closer to slave owners in nearby states. From a historical standpoint it is not important that Mr. Lincoln lost that election, but it helped to split the Democratic Party in 1860, which allowed Lincoln to be elected with about 40% of the vote. Despite his underwhelming electoral tally, he showed political skills that would be needed to manage a fiercely divided government. (I have paid particular attention to his political acumen as one of my distant ancestors wrote a book on when he was an elector for President Lincoln for his second term.) Bottom line: it is a mistake to view campaign speeches as a guide to elective political successes.

Using the same mistaken identity politics as those investors trying to recover, many of them view all Republicans as fully on board with the new president. Some wiser souls have already recognized that Paul Ryan and his abilities are the keys to passage of critical legislation. I can almost guarantee the final bill presented to the President will not much look like one that could have been drafted from the campaign trail. Even if that would have been desirable one needs to take into consideration that the incoming president is a negotiator and may have announced his starting positions, not his final ones. In Washington, no piece of governing stands totally on its own, but rather as a negotiating item in a mix of deliverables.

The history of our presidents is that the main items that command their attention are new events which modify past positions.

Faulty Political Analysis May Lead to Investment Bubble

Instead of looking at the tea-leaves, I urge you to concentrate on the tea-readers. Also, I seek to look at the entire data set, not the conclusions.

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