Donald Rumsfeld former US Secretary of Defense is famous for the comment “There are known knowns; these are things we know, we know. We also know there are known unknowns; that is to say we know there are some things we do not know. But there are also unknown unknowns — the ones we don’t know we don’t know.
Individual investors now face many “known unknowns”. The UK referendum on EU membership; the price of oil; the future growth of China and market volatility are currently confronting people with a large degree of uncertainty.
But it’s not necessary to “make the right call” on the outcome of all these issues or their consequences to be a successful investor. Our recommended approach is to trust the market to price securities fairly and to take account of broad expectations of future returns.
When arguing for the status quo, the “remain” campaign is able to point out familiar characteristics of membership. The “out” campaign, however, is based on intangibles that can only be resolved after the result of the referendum is known. It is impossible for any individual to predict the implications of these unknowns with certainty.
But this is no cause for concern. While the referendum is imminent and its implications are potentially vast and unpredictable, it is not necessary for individual investors to make any judgement calls on the outcome. Investors have faced many uncertainties in the past—general elections, market crises, recessions, wars—and throughout all of them, the market has done its job of aggregating participants’ views about expected returns and priced assets accordingly.
While these events have caused uncertainty, volatility and short-term losses and gains, none of them has altered the expectation that stocks provide a good long-term return in real terms.
Investors with a global view of investing know the market is very good at processing information that is relevant to future returns. Therefore, they don’t attempt to second-guess the market, but invest in well-diversified portfolios that do not rely on the outcome of individual events or decisions to target the expected long-term return.