Scenario thinking is one of the most important tools in this area; an in-depth process of mental modelling allows us to create a more robust portfolio, equipped to react and adapt to signals more quickly.
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Our industry relies to a large extent on “equilibrium models” to construct portfolios. In these models:
- Decision-makers are rational
- Probability distributions are predictable
Unfortunately the real world is more complicated, which is why:
- Models have done a lousy job of forecasting investors’ actual experience
- Well-intentioned decisions based on models can be misguided
We prefer to see the world as it is:
- Highly complex
- Fundamentally uncertain
Our perspective is not defeatist.
But it does force us to think differently about portfolios and risk.
We use scenario thinking:
- To build robust portfolios . . .
- That we can adapt quickly to market signals . . .
- Because these signals remind us of scenarios we envisioned
Memories of the future. Memento futuri.