Thursday, September 25th, 2008
on the horizon

One of the most difficult issues in the investment decision making process is that of time horizon.  In order to judge the efficacy of a decision, we must think about intent.  The contemplated risk (as measured in any number of ways) is an important element of the construct, as is some notion of when and why the anticipated change in value is expected to occur.

As a way to set up the issues, let’s presume that we all ticked off our time horizon whenever we made an investment, using this list:

Immediately we are faced with a categorization that is somewhat artificial, but which has the benefit of forcing us to articulate our beliefs and which can provide a framework for evaluation.  A mismatch between the intended time horizon and the period of evaluation is a very common problem, for the decision makers and for those who evaluate them.  For example, too often performance is judged on the past quarter or year without consideration as to what the appropriate time frame should be, with predictable behavioral inhibitions that end up harming performance.  On the flip side, those who make the investment choices can be very squishy about time horizon, and can easily fall into a trap of rationalization.

This is one of those “soft” factors in investment process for which there are no pat answers.  Strategies can be worth keeping on the books past their originally-stated time horizon for a variety of reasons, and there is very real value in the optionality of time.  But it is also true that being “right” or “wrong” can distort timeFor a mind-boggling exploration of the malleability of time, check out Einstein’s Dreams by Alan Lightman. for the decision maker, and a lack of retrospective insight harms future decisions.

A simple structure for evaluation can do wonders.  First, what are your expectations going in?  Record them.  (How many of us could check “decades” on the simple list above for most of our decisions — or even “years”?)  Review them on a prescribed schedule.  Analyze them to see whether there are certain types of horizons that are natural for your vision, or whether other patterns of behavior become obvious.the research puzzle | I explored this a bit in my earlier posting, “the wayback machine.”

It is often surprising to me how little some investment firms know about how they make decisions.  Stating your beliefs in advance of a commitment, including when you expect it to work, is a simple but powerful piece of information to analyze.