Investment Mistakes To Avoid

None of us, regardless of our skill and experience in investing, can be spared the pain caused by making mistakes. While we can all certainly learn from our mistakes, we are often still tempted to fall into the next trap, especially at times when markets seem destined to climb far beyond what reason dictates. Many of these mistakes might be avoided by exercising the discipline of simply pausing to consider the potential pitfalls of your investment decision. With contributions from my own experience and those of my GMO colleagues, I present a handful of mistakes that the current investment environment seems to invite. While clearly not an exhaustive list, perhaps you will recognize yourself in one and pause to consider how you might avoid a costly misstep.

Mistake 1: Piling into Growth and the U.S. and out of Chinese and Emerging Equities

Generalized Version: Riding Your Winners and Losing Faith in Your Losers

In 2021 we saw a continuation of patterns long since established, with the U.S. equity market far outpacing the rest of the world and large cap growth again beating large cap value in the developed world.1 China’s clamping down on its tech giants – which had provided the U.S.’s strongest competition for growth investor enthusiasm – left plenty of investors feeling as if U.S. large growth was both the lowest risk and highest return version of equities. Not surprisingly, some are explicitly rethinking their commitment to emerging markets in light of recent Chinese policy shifts (which we think is a mistake) and more are simply failing to rebalance their portfolios out of their winners and into their losers. The bias this creates is compounded by the fact that the growth exposure of many active managers has gradually crept up over the past few years as they chase performance as well.2 Rebalancing back to your previous regional targets must be the bare minimum move to make. The rising weight of the U.S. in global indices at a time when its valuation premium is the highest in decades actually argues for more active reductions in U.S. exposure than simply keeping its weight in line with that of, for example, MSCI ACWI, which currently has weights of 61%/26%/13% in the U.S., EAFE, and emerging regions, respectively. Using our estimates of fair value, those weights would be 49%/33%/18%, which is the biggest difference between market-cap-weighted and fundamentals-weighted versions of this global benchmark since the height of the Japan bubble more than 30 years ago.

Of course, to many investors, having an overweight to U.S. equities seems not merely harmless but actually risk-reducing, given that the U.S. has performed better in most downturns over the last 15 years. It is natural to feel that any market that has recently done well is less risky and those that have done poorly are riskier, but this turns out not to be the case, as we can see in Exhibit 1.

Whether we are looking at trailing 1- or 3-year performance, the former laggard countries wind up being the winners, and the previous high-fliers underperform. The U.S. may feel like the safer bet given its strong performance, but history suggests otherwise.