CHAPTER 12



History is the study of change, ironically used as a map of the future.

Stanford professor Scott Sagan once said something everyone who follows the economy or investment markets should hang on their wall: “Things that have never happened before happen all the time.”

History is mostly the study of surprising events. But it is often used by investors and economists as an unassailable guide to the future.

Do you see the irony?

Do you see the problem?

It is smart to have a deep appreciation for economic and investing history. History helps us calibrate our expectations, study where people tend to go wrong, and offers a rough guide of what tends to work. But it is not, in any way, a map of the future.

A trap many investors fall into is what I call “historians as prophets” fallacy: An overreliance on past data as a signal to future conditions in a field where innovation and change are the lifeblood of progress.

You can’t blame investors for doing this. If you view investing as a hard science, history should be a perfect guide to the future. Geologists can look at a billion years of historical data and form models of how the earth behaves. So can meteorologists. And doctors—kidneys operate the same way in 2020 as they did in 1020.

But investing is not a hard science. It’s a massive group of people making imperfect decisions with limited information about things that will have a massive impact on their wellbeing, which can make even smart people nervous, greedy and paranoid.

Richard Feynman, the great physicist, once said, “Imagine how much harder physics would be if electrons had feelings.” Well, investors have feelings. Quite a few of them. That’s why it’s hard to predict what they’ll do next based solely on what they did in the past.

The cornerstone of economics is that things change over time, because the invisible hand hates anything staying too good or too bad indefinitely. Investor Bill Bonner once described how Mr. Market works: “He’s got a ‘Capitalism at Work’ T-shirt on and a sledgehammer in his hand.” Few things stay the same for very long, which means we can’t treat historians as prophets.

The most important driver of anything tied to money is the stories people tell themselves and the preferences they have for goods and services. Those things don’t tend to sit still. They change with culture and generation. They’re always changing and always will.

The mental trick we play on ourselves here is an over-admiration of people who have been there, done that, when it comes to money. Experiencing specific events does not necessarily qualify you to know what will happen next. In fact it rarely does, because experience leads to overconfidence more than forecasting ability.

Investor Michael Batnick once explained this well. Confronted with the argument that few investors are prepared for rising interest rates because they’ve never experienced them—the last big period of rising interest rates occurred almost 40 years ago—he argued that it didn’t matter, because experiencing or even studying what happened in the past might not serve as any guide to what will happen when rates rise in the future:


So what? Will the current rate hike look like the last one, or the one before that? Will different asset classes behave similarly, the same, or the exact opposite?

On the one hand, people that have been investing through the events of 1987, 2000 and 2008 have experienced a lot of different markets. On the other hand, isn’t it possible that this experience can lead to overconfidence? Failing to admit you’re wrong? Anchoring to previous outcomes?


Two dangerous things happen when you rely too heavily on investment history as a guide to what’s going to happen next.


1. You’ll likely miss the outlier events that move the needle the most.


The most important events in historical data are the big outliers, the record-breaking events. They are what move the needle in the economy and the stock market. The Great Depression. World War II. The dot-com bubble. September 11th. The housing crash of the mid-2000s. A handful of outlier events play an enormous role because they influence so many unrelated events in their wake.

Fifteen billion people were born in the 19th and 20th centuries. But try to imagine how different the global economy—and the whole world—would be today if just seven of them never existed:

 Adolf Hitler

 Joseph Stalin

 Mao Zedong

 Gavrilo Princip


Thomas Edison


Bill Gates


Martin Luther King


I’m not even sure that’s the most meaningful list. But almost everything about the world today—from borders to technology to social norms—would be different if these seven people hadn’t left their mark. Another way to put this is that 0.00000000004% of people were responsible for perhaps the majority of the world’s direction over the last century.

The same goes for projects, innovations, and events. Imagine the last century without: 

The Great Depression

 World War II


The Manhattan Project







September 11th


The fall of the Soviet Union


How many projects and events occurred in the 20th century? Billions, trillions—who knows. But those eight alone impacted the world orders upon orders of magnitude more than others.

The thing that makes tail events easy to underappreciate is how easy it is to underestimate how things compound. How, for example, 9/11 prompted the Federal Reserve to cut interest rates, which helped drive the housing bubble, which led to the financial crisis, which led to a poor jobs market, which led tens of millions to seek a college education, which led to $1.6 trillion in student loans with a 10.8% default rate. It’s not intuitive to link 19 hijackers to the current weight of student loans, but that’s what happens in a world driven by a few outlier tail events.

The majority of what’s happening at any given moment in the global economy can be tied back to a handful of past events that were nearly impossible to predict.

The most common plot of economic history is the role of surprises. The reason surprises occur is not because our models are wrong or our intelligence is low. It’s because the odds that Adolf Hitler’s parents argued on the evening nine months before he was born were the same as them conceiving a child. Technology is hard to predict because Bill Gates may have died from polio if Jonas Salk got cranky and gave up on his quest to find a vaccine. The reason we couldn’t predict the student loan growth is because an airport security guard may have confiscated a hijacker’s knife on 9/11. That’s all there is to it.

The problem is that we often use events like the Great Depression and World War II to guide our views of things like worst-case scenarios when thinking about future investment returns. But those record-setting events had no precedent when they occurred. So the forecaster who assumes the worst (and best) events of the past will match the worst (and best) events of the future is not following history; they’re accidentally assuming that the history of unprecedented events doesn’t apply to the future.

Nassim Taleb writes in his book Fooled By Randomness:


In Pharaonic Egypt … scribes tracked the high-water mark of the Nile and used it as an estimate for a future worst-case scenario. The same can be seen in the Fukushima nuclear reactor, which experienced a catastrophic failure in 2011 when a tsunami struck. It had been built to withstand the worst past historical earthquake, with the builders not imagining much worse—and not thinking that the worst past event had to be a surprise, as it had no precedent.


This is not a failure of analysis. It’s a failure of imagination. Realizing the future might not look anything like the past is a special kind of skill that is not generally looked highly upon by the financial forecasting community.

At a 2017 dinner I attended in New York, Daniel Kahneman was asked how investors should respond when our forecasts are wrong. He said:


Whenever we are surprised by something, even if we admit that we made a mistake, we say, ‘Oh I’ll never make that mistake again.’ But, in fact, what you should learn when you make a mistake because you did not anticipate something is that the world is difficult to anticipate. That’s the correct lesson to learn from surprises: that the world is surprising.


The correct lesson to learn from surprises is that the world is surprising. Not that we should use past surprises as a guide to future boundaries; that we should use past surprises as an admission that we have no idea what might happen next.

The most important economic events of the future—things that will move the needle the most—are things that history gives us little to no guide about. They will be unprecedented events. Their unprecedented nature means we won’t be prepared for them, which is part of what makes them so impactful. This is true for both scary events like recessions and wars, and great events like innovation.

I’m confident in that prediction because surprises moving the needle the most is the one forecast that’s been accurate at virtually every point in history.


2. History can be a misleading guide to the future of the economy and stock market because it doesn’t account for structural changes that are relevant to today’s world.


Consider a few big ones.

The 401(k) is 42 years old. The Roth IRA is younger, created in the 1990s. So personal financial advice and analysis about how Americans save for retirement today is not directly comparable to what made sense just a generation ago. We have new options. Things changed.

Or take venture capital. It barely existed 25 years ago. There are single venture capital funds today that are larger than the entire industry was a generation ago. In his memoir, Nike founder Phil Knight wrote about his early days in business:


There was no such thing as venture capital. An aspiring young entrepreneur had very few places to turn, and those places were all guarded by risk-averse gatekeepers with zero imagination. In other words, bankers.


What this means, in effect, is that all historical data going back just a few decades about how startups are financed is out of date. What we know about investment cycles and startup failure rates is not a deep base of history to learn from, because the way companies are funded today is such a new historical paradigm.

Or take public markets. The S&P 500 did not include financial stocks until 1976; today, financials make up 16% of the index. Technology stocks were virtually nonexistent 50 years ago. Today, they’re more than a fifth of the index. Accounting rules have changed over time. So have disclosures, auditing, and the amount of market liquidity. Things changed.

The time between U.S. recessions has changed dramatically over the last 150 years:



The average time between recessions has grown from about two years in the late 1800s to five years in the early 20th century to eight years over the last half-century.

As I write this it looks like we’re going into recession—12 years since the last recession began in December 2007. That’s the longest gap between recessions since before the Civil War.

There are plenty of theories on why recessions have become less frequent. One is that the Fed is better at managing the business cycle, or at least extending it. Another is that heavy industry is more prone to boom-and-bust overproduction than the service industries that dominated the last 50 years. The pessimistic view is that we now have fewer recessions, but when they occur they are more powerful than before. For our argument it doesn’t particularly matter what caused the change. What matters is that things clearly changed.

To show how these historic changes should affect investing decisions, consider the work of a man many believe to be one of the greatest investment minds of all time: Benjamin Graham.

Graham’s classic book, The Intelligent Investor, is more than theory. It gives practical directions like formulas investors can use to make smart investing decisions.

I read Graham’s book when I was a teenager, learning about investing for the first time. The formulas presented in the book were appealing to me, because they were literally step-by-step instructions on how to get rich. Just follow the instructions. It seemed so easy.

But something becomes clear when you try applying some of these formulas: few of them actually work.

Graham advocated purchasing stocks trading for less than their net working assets—basically cash in the bank minus all debts. This sounds great, but few stocks actually trade that cheaply anymore—other than, say, a penny stock accused of accounting fraud.

One of Graham’s criteria instructs conservative investors to avoid stocks trading for more than 1.5 times book value. If you followed this rule over the last decade you would have owned almost nothing but insurance and bank stocks. There is no world where that is OK.

The Intelligent Investor is one of the greatest investing books of all time. But I don’t know a single investor who has done well implementing Graham’s published formulas. The book is full of wisdom—perhaps more than any other investment book ever published. But as a how-to guide, it’s questionable at best.

What happened? Was Graham a showman who sounded good but whose advice didn’t work? Not at all. He was a wildly successful investor himself.

But he was practical. And he was a true contrarian. He wasn’t so wedded to investing ideas that he’d stick with them when too many other investors caught onto those theories, making them so popular as to render their potential useless. Jason Zweig—who annotated a later version of Graham’s book—once wrote:


Graham was constantly experimenting and retesting his assumptions and seeking out what works—not what worked yesterday but what works today. In each revised edition of The Intelligent Investor, Graham discarded the formulas he presented in the previous edition and replaced them with new ones, declaring, in a sense, that “those do not work anymore, or they do not work as well as they used to; these are the formulas that seem to work better now.”

One of the common criticisms made of Graham is that all the formulas in the 1972 edition are antiquated. The only proper response to this criticism is to say: “Of course they are! They are the ones he used to replace the formulas in the 1965 edition, which replaced the formulas in the 1954 edition, which, in turn, replaced the ones from the 1949 edition, which were used to augment the original formulas that he presented in Security Analysis in 1934.”


Graham died in 1976. If the formulas he advocated were discarded and updated five times between 1934 and 1972, how relevant do you think they are in 2020? Or will be in 2050?

Just before he died Graham was asked whether detailed analysis of individual stocks—a tactic he became famous for—remained a strategy he favored. He answered:


In general, no. I am no longer an advocate of elaborate techniques of security analysis in order to find superior value opportunities. This was a rewarding activity, say, 40 years ago, when our textbook was first published. But the situation has changed a great deal since then.


What changed was: Competition grew as opportunities became well known; technology made information more accessible; and industries changed as the economy shifted from industrial to technology sectors, which have different business cycles and capital uses.

Things changed.

An interesting quirk of investing history is that the further back you look, the more likely you are to be examining a world that no longer applies to today. Many investors and economists take comfort in knowing their forecasts are backed up by decades, even centuries, of data. But since economies evolve, recent history is often the best guide to the future, because it’s more likely to include important conditions that are relevant to the future.

There’s a common phrase in investing, usually used mockingly, that “It’s different this time.” If you need to rebut someone who’s predicting the future won’t perfectly mirror the past, say, “Oh, so you think it’s different this time?” and drop the mic. It comes from investor John Templeton’s view that “The four most dangerous words in investing are, ‘it’s different this time.’”

Templeton, though, admitted that it is different at least 20% of the time. The world changes. Of course it does. And those changes are what matter most over time. Michael Batnick put it: “The twelve most dangerous words in investing are, ‘The four most dangerous words in investing are, ‘it’s different this time.’”

That doesn’t mean we should ignore history when thinking about money. But there’s an important nuance: The further back in history you look, the more general your takeaways should be. General things like people’s relationship to greed and fear, how they behave under stress, and how they respond to incentives tend to be stable in time. The history of money is useful for that kind of stuff.

But specific trends, specific trades, specific sectors, specific causal relationships about markets, and what people should do with their money are always an example of evolution in progress. Historians are not prophets.

The question, then, is how should we think about and plan for the future? Let’s take a look in the next chapter.



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