Six Lessons We Learned While Navigating the Market in 2021

Episode Summary

Executive Summary: The episode reflects on investing lessons from the post-pandemic market: markets are driven by voting/flows in the short run, definitions of “long term” for factors may need to be 20+ years, investors should think in probabilities rather than certainties, and extremes can happen when people assign zero odds to outcomes. The hosts also stress that worry is constant, many market forecasts ignore math, and recent market behavior may represent a regime shift.

Main Topics: Market as a voting machine (Priority: 5/5): The hosts argue that prices are always driven by investor behavior, flows, and psychology, while fundamentals only matter insofar as market participants choose to care about them over time. Defining the true long term (Priority: 5/5): They revisit how factor and value strategies can underperform for far longer than investors expect, suggesting that a realistic long-term horizon may be 20 years or more. Probabilities over certainty (Priority: 5/5): The discussion emphasizes framing investment decisions in probabilities, not absolutes, and using pre-mortems to test what would have to happen for a thesis to fail. Rare but extreme outcomes can happen (Priority: 4/5): Examples like GameStop and Shiba Inu show that investors often assign zero probability to events that nevertheless occur, creating danger for those positioned with absolute certainty. A post-COVID regime shift (Priority: 4/5): Jack and Justin suggest the pandemic created a hard break in investor psychology and performance evaluation, with pre- and post-COVID market environments feeling fundamentally different. Always a reason to sell (Priority: 4/5): They stress that markets constantly present frightening headlines and narratives, but most of these do not justify selling or timing the market. Do the math on extrapolations (Priority: 4/5): The hosts caution against projecting extraordinary return histories too far into the future without checking whether the implied outcomes are realistic at scale.

Key Arguments: Short-term market movements are dominated by voting behavior, flows, and psychology rather than fundamentals. Fundamentals may matter eventually, but investors should not assume a near-term reversion to a classic “weighing machine” market. Factor strategies, especially value, may require a 20-year horizon because multi-year underperformance is normal. If an investor cannot tolerate long stretches of underperformance, they may be better suited to passive indexing than factor investing. Investment decisions should be framed as probabilities, since even high-conviction ideas are never truly certain. Pre-mortem thinking helps investors examine how a thesis could fail and improves intellectual honesty. Events once viewed as impossible can still occur, and short sellers or other concentrated positions can suffer severely when they do. Constant fear-inducing narratives are normal in markets; investors who react to every one of them are likely to underperform. Exceptional past returns on small assets or niche strategies often become unrealistic when extrapolated to larger capital bases. The pandemic appears to have altered investor behavior and market leadership enough to create a noticeable regime change.

Data Points: Episodes produced over the prior year: 65 - Justin says Excess Returns produced 65 episodes in the last 12 months. Podcast age: 2+ years - Jack notes the podcast is now more than two years old. Value investing underperformance period: 10+ years - Jack says value has struggled for more than a decade in the post-GFC/post-pandemic era. Suggested long-term horizon for factor strategies: 20 years - Jack cites Meb Faber’s view that factor investors may need to define long term as roughly 20 years. Stock market 20-year historical outcome: 100% positive - Jack says historically, over 20-year periods, stock investors have made money every time so far. GameStop monthly move: ~2000% - Jack cites GameStop’s massive run during early 2021 as an example of a “zero probability” event. Shiba Inu investment return: $8,000 to $5.6 billion - Jack references a reported Shiba Inu whale gain over about 14 months. Shiba Inu time frame: 14 months - The example is used to show how extreme outcomes can occur in crypto/speculative assets. ARK-style forecasted returns: 45-50% per year - Justin references Cathie Wood/ARK’s very high five-year track record and implied expectations. ARK forward projection: 20% per year - Justin mentions a cited forward projection for ARK that became much less realistic after drawdowns. Fund return example after drawdown: 40-60% per year implied - Justin notes that as the ETF price fell, the implied future return target rose to an unrealistic level.

Pivotal Quotes: "In the short run, the market's a voting machine. In the long run, it's a weighing machine." — Referenced by Justin/Jack (attributed to Buffett/Graham): Introduced as the classic framework the hosts then critique and refine. "The market is always a voting machine." — Jack: Jack’s key reframing: price is always driven by votes/flows/behavior, even if fundamentals matter eventually. "So you're telling me there's a chance" — Jack (quoting Dumb and Dumber): Used to illustrate that outcomes people think are impossible can still happen in markets.

Implications: Investors should expect volatility, narrative-driven extremes, and long periods of style underperformance. Success requires probabilistic thinking, patience, and realistic math—especially for factor and high-growth strategies.