One of the best kernels of investment logic was presented to me in 2004 by Dan Wheeler of Dimensional Fund Advisors (DFA). It was a statement about interest rates, but it could have applied to any investment.
Low, lower, lowest!
Remember that interest rates were low in 2004, although certainly not as low as they are now. Rates had dropped a lot during the tech crash and stayed low for a while. They slowly crept up before dropping dramatically during the 2008 financial crisis, to the point where the risk free rate became virtually zero (in some cases below zero). It has basically stayed there.
The general investment narrative in 2004 was that, if we knew anything, it was that interest rates would be going up in the not-too-distant future. Why? They were at historic lows. Savings accounts were hardly getting more than 1%. For rates to drop further, the Fed funds rate would have to be put practically at zero. They just couldn’t go lower, many thought. They could only go up.
Why “sure bets” are illogical
In response to this attitude, I remember Dan saying, “Nobody knows where interest rates are going to go. Look, if everyone was so sure interest rates will be going up, they would have gone up already.”
It is a simple statement, but it is profound, and it is the absolute truth. If everyone thinks a stock will be going up, it would already have gone up in anticipation. If everyone thinks the market will crash, it already would have crashed down to a price where others would be ready to buy again.
Remember, you can’t buy or sell into a Nebula. You have to sell to another person who thinks they are getting a good deal. There is another person on the other side of the trade, and that person must have the opposite opinion about the future that you do.
Dan wasn’t saying that he knew rates would stay low. He was just saying that you are thinking illogically if you thought it was a sure bet they would go up. Almost 10 years later, the wisdom of his thinking is evident.
Dan’s logic still holds true today, even with the risk free rate at zero. If everyone knew rates would be going up, they would have gone up already.