Pessimistic Prognosticators Aplenty

Story Highlights:

• Many otherwise rational financial professionals are declaring this one of the worst global economic landscapes in decades.
• While there is no doubting Financials sector woes today, it's likely their views are skewed.

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Here's an interesting behavioral quirk: We tend to view our immediate surroundings as representative of the world at large.

Anyone who works in the financial industry today would be hard-pressed to see the world as rosy. Many have witnessed their own company's stock decline by 50%, 75%, or even 90%. They've also witnessed pay cuts, job cuts, write-downs, losses, freezes, foreclosures, bank runs, bank failures, defaults, bad loans, non-performing loans, delinquent loans and, well, you get the idea.

So it doesn't surprise us to see the majority of financial pundits not just lamenting industry troubles, but also extrapolating those troubles to the broader global economy. And Financials' pain is doubly tough to put into context because in some sense Financials affect everyone. Individuals, governments, corporations, you name it—they all do business with banks. So seeing banks in trouble is a scary thing: It's very easy to believe bank troubles mean economy-busting problems.

One might say the same about the housing market. People go home every day. It's their place of safety; where the family is, where their lives are. To see one's home drop in value is vastly taxing on the brain, often making one's whole world view gloomier.

Such thought processes are natural, but also detrimental for investors because they lead to a distorted view of reality and ultimately ill-advised action. But should investors subscribe to their ugly view of the broad economic landscape? We say no. And we're not the only ones.

The Real Reason Why Bankers Feel so Gloomy
By Anatole Kaletsky, The Times
https://www.timesonline.co.uk/tol/comment/columnists/anatole_kaletsky/article4346962.ece

As the article points out, history provides many examples showing "financial market expectations are usually wrong at or near cyclical turning points."

This highlights another important behavioral quirk: Folks tend to see what's happening today and assume the future will be largely the same. It's often very hard to envision a turnaround or a reversal, particularly at the high and low marks. Not coincidentally, this is a classic pitfall for investors too.

Perhaps the best tactic against these cognitive errors is framing. There's no way to understand the magnitude of any event without framing it in the proper context. For example, it was estimated last week Freddie Mac might need in the neighborhood of $10 billion or $20 billion in capital to remain solvent. Is that a lot or a little? It sure sounds big. But then, recall Freddie and Fannie combined hold nearly $5 trillion in loans, the vast majority of which will perform fine. Framed in this way, a $20 billion capital infusion is no cause for concern, particularly when the Fed is ready and willing to provide that capital (and it oversees trillions in funds changing hands each year too).

We challenge you to do the same when confronting both doomsday and euphoric scenarios. Forget the sensational headlines. Forget the expert opinions. Just see what kind of context you can generate to understand an issue more clearly. The results will steer you in the right direction most often.

For those working in the financial industry, things aren't great today. We empathize, but many of them are painting a picture of the broad global economy that doesn't reflect the broader reality. Today's world isn't rosy, but economic growth for the US and the globe is positive and may in fact be picking up. In any economy, some parts grow while others don't—rarely if ever do all parts of an economy grow in unison. Look past the high-profile sectors of Financials and housing, and you'll see an economy otherwise moving ahead, and on balance, growing.