It is only human nature to look to extrapolate the future from the recent past – which is why investors need to be especially careful to resist the temptation
Along with taxes, death is famously supposed to be one of life’s two certainties – and yet what appears less certain than it used to, is how long we may live before we face the final curtain. Until recently, it has generally been taken for granted that people are living ever longer but has that simply been a result of the human tendency to extrapolate the future from the recent past?
Take a look at the following chart, which shows life expectancy has been steadily rising around the world for the best part of two centuries. What it also shows are three recent estimates from the United Nations of what life expectancy will be 10 years further on – in 1980, 1990 and 2000 – and, on each occasion, the UN had to increase its estimate by a not insignificant amount.
Life expectancy around the world has increased steadily for nearly 200 years
Source: © 2008 American Association for the Advancement of Science Modified from Oeppen, J. & Vaupel, J. W. Broken Limits to Life Expectancy Science 296,1029 (2002). All rights reserved.
These sorts of estimates of our future longevity tend to be seized upon by the press – for example, in 2015 the Mail, ever a glass-half-full kind of paper, warned Britain was facing “a life expectancy timebomb” as, by 2030, “the average man will live to 85 ... and women will reach 87”. As a result, it added, “experts” were warning the “wealthy should be prepared to pay higher taxes to fund better health and social care”.
What the UN, the Mail and its experts were all guilty of is the behavioural finance sin of extrapolating recent data in a bid to predict the future. Indeed, in the two years since the Mail issued its timebomb warning, life expectancy in the UK has actually reduced. As such, over the last five years, life expectancy is essentially flat. Nor is this a UK-only quirk of the data – it is also evident in the US and elsewhere in the world.
What is more, the life expectancy gap between the sexes has also recently narrowed – though, before champions of gender equality become too excited, that is only because women’s life expectancy has been falling more quickly than men’s.
And all of this would have significant and actually quite positive ramifications for the future sustainability of the NHS, say, or for the outlook for life insurance firms or indeed any of the UK’s household-name businesses operating huge defined benefit pension schemes …
Extrapolating futures from a short amount of data is dangerous
Only, of course, that is not what we are saying because this is just a couple of years of data and extrapolating any sort of future from it would be as dangerous as doing so from the apparently limitless upward trajectory of the above graph. Or, as we discussed last month, when in the 1970s the Australian government used recent statistics as conclusive evidence for introducing a law compelling motorists to wear seatbelts.
As we never tire of saying, here on The Value Perspective, the future is uncertain and so there is very little point wasting time and effort trying to forecast how it might pan out. As value investors, we strive to resist the temptation to extrapolate the future from how things look today and instead ask the simple question ‘what if?’.
What if the thing that everyone expects to stay the same, changes? What if the thing that everyone believes can only increase, stops? What if the thing that is currently terrible, improves? For it is only by asking ‘what if?’ that you can generate significant investment gains when the environment improves – and, just as importantly, protect yourself from significant losses if the environment deteriorates.