Beware of hindsight bias when comparing what you own with what you wish you owned.
The analyst's son cast for his last fish of the last night of summer vacation. Moments later, after a big splash and a mild oath, all the teen had was a snapped fishing line and conjecture about what swam off with his bait. The one that got away already has grown large enough to eclipse the memory of all the other fish he caught the previous week.
Like young fisherman, investors fret and dream about missed opportunities. Lots of investors find themselves more obsessed with the investments they should have made than with ones they actually bought. You can learn from studying past decisions, but pining after today's big winners because you didn't buy them yesterday can get you in trouble.
You could fall prey to hindsight bias, thinking that the historical results of a hot fund or asset class were inevitable and thus easy to predict. From there it's easy to conclude the future will be just as foreseeable and that tomorrow's top performer will seem like a no-brainer. Furthermore, fixating on the results you could have had instead of how you achieved the results you got can lead you to misjudge your strategy and make unnecessary alterations. Just because you took a pass on a fund that turned out to be a world-beater doesn't mean you didn't have sound reasons to do so or that you're not following a legitimate process.
Consider some big ones that have gotten away from the analyst over the years.
After the Gold Rush
More than a decade ago a colleague pounded the table for gold. A small allocation to gold or gold mining stocks could add diversification because they zigged when the equity market zagged, one argument went. Gold prices also were at historic lows and due for a rebound, went another. Did the analyst listen? No. He allocated nothing to gold and sat out the typical precious-metals fund's nearly 23% annualized 10-year gain (the best of any Morningstar peer group) through Sept. 3, 2010.
He had reasons. Yellow metal was unpredictable, generated no income, had no real return, and hadn't done anything for decades. Plus, you couldn't buy gold bullion exchange-traded funds at the time, just funds that owned precious-metals mining stocks, which were subject to lots of company-specific risks. The analyst didn't think he could sleep with that in his portfolio.
The Once and Future King
Later, another colleague initiated coverage on a newish fund saying it had "great appeal for dedicated value investors." The fund had been around only since December 1999 but had been on a tear. The manager was an iconoclastic value investor who shunned benchmarks and wasn't averse to holding cash if opportunities were scarce or loading up on favored sectors and stocks when they were plentiful.
It caught the analyst's attention, but he remained a spectator. The fund's fees were a bit higher and its track record shorter than those of the funds the analyst already owned. The contrarian in the analyst also balked at buying a relatively young fund after a hot streak.