What Can “Recency Bias” in Sports Teach Investors?
On November 3, 2016, the Chicago Cubs won the World Series to end a drought of 108 years without winning the Major League Baseball championship. It was the longest championship drought ever for any professional sports team. Any casual observer of professional sports at the time would have thought things could not have been better for the manager of the Cubs, Joe Maddon. Since his first year with the Cubs in 2015, Joe Maddon won the National League Wild Card twice, won the National League Central Division title twice, won the World Series once and appeared in the playoffs every year.
Fast forward less than three years later and things aren’t so rosy for Joe Maddon. Going into the 2019 season, Joe Maddon found himself on the hot seat after exiting the 2018 playoffs early. Apparently, the luster of the World Series win from 2016 was starting to wear off for Cubs fans and they were getting impatient with Joe. What was fresh in the mind of Cubs fans was the fact that the Cubs didn’t make it past the first round of the playoffs in 2018.
The state of current affairs for Joe Maddon and the Chicago Cubs is a common theme in both collegiate and professional sports. Coaches and managers are routinely hired, only to be fired a few years later when their strategy doesn’t produce the desired results. This could be despite the fact that a coach (such as Joe Maddon) had accomplished great feats for their team.
This “recency bias” that sports fans exhibit is common also when it comes to investing. Recency bias is when an individual most easily remembers something that just occurred and the tendency to forget that which happened further in the past. The most obvious example today in the investment world is the performance of the S&P 500 (and the other major U.S. stock market indices). In 2018, the index outperformed developed international and emerging markets (in a year that all equity markets were down). Year to date in 2019, the S&P 500 has continued that outperformance. Those who invested all or most of their portfolios in the U.S. are probably elated. Those investors who allocated part of their portfolios to developed international and emerging markets may have experienced disappointment as these areas of the market underperformed U.S. markets during this time period.
Based on this, the logical conclusion for many investors when developing an investment plan is to heavily weight their portfolio to the U.S. What those investors tend to forget is that in 2017, emerging markets were the best asset class in the world posting a 37% return followed by developed international which posted a 24% return. Investors who had part of their portfolios allocated to developed international and emerging markets were better off than those invested exclusively in the U.S.
At the beginning of the 2019 Major League Baseball season, many of Joe Maddon’s biggest critics appeared to be right. The Cubs started the year with a 2-7 record and fans were wondering if Joe could right the ship. Fast forward to mid-May and the Cubs now find themselves in first place in their division (as of May 15, 2019). Thirty days ago, no one would have expected this quick turnaround.
In the fourth quarter of 2018, all equity markets posted negative returns. What many investors ignored though was the fact that emerging markets posted half the loss of the U.S. market during this time period. It’s too early to tell if this outperformance represents a shift for emerging markets, but it serves as a reminder to investors that the tide can turn quickly. When developing an investment plan, it’s important to remember that a diversified portfolio will sometimes contain areas of the market that perform very well and other areas that may create a feeling of disappointment. Over the long term, this diversified approach is superior to chasing returns in the areas of the market that are currently performing the best.
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