Have you ever turned up your thermostat only to still feel cold, later discovering someone opened a window? We often think we have complete control over our environment, but we don’t. We live in a complex, interconnected world where rarely does a single event today clearly impact your investments tomorrow. So how exactly does one manage an investment portfolio in a complex environment?
Economies are made up of many people reacting to many different factors.
Consider the complexity of an economy:
- Consumers spend based on their income, job security, expected price changes, and what’s available to buy.
- Businesses make decisions about investments and hiring based on customer demand, worker availability, material costs, interest rates, inflation expectations, and potential changes to taxes, tariffs and regulations.
- Governments balance taxes and spending with an eye toward re-election.
Changing one factor won’t guarantee the outcome you want.
Attributing a single event to a move in markets provides comfort but is rarely accurate.
In a complex world, we crave simple explanations. The ancient Greeks understood lightning to be Zeus’ thunderbolts. Similarly, when stock markets jump or fall, we want someone to tell us why. Sometimes raising a product’s price boosts company profits. Other times, it pushes consumers to alternatives, reducing demand.
Changing too much at once makes it impossible to identify cause and effect.
In engineering school, we learn to understand complex systems by changing just one factor at a time and measuring the results. For example, to improve an engine’s performance, you adjust either the quantity of fuel, air or compression – but not all three simultaneously.
Today’s economic environment offers little clarity about which policies will actually be implemented. This uncertainty makes planning difficult. Consumers might rush or delay purchases. Business leaders might hesitate on long-term investments or pause hiring. Investors struggle to predict whether companies will become more or less profitable.
U.S. Government finances are complex and interconnected.
One example of complexity is the U.S. Federal Government. The chart below1 from JP Morgan Asset Management’s “Guide to the Markets” breaks down the major components comprising government spending and sources of financing:
*Click to enlarge
This chart shows how much the government plans to spend in fiscal year 2025. This chart also shows the sources of government revenue and how much the government must borrow to cover spending.
Making meaningful changes without affecting voters is nearly impossible. Cutting 10% from “non-defense discretionary” spending (the orange section) only reduces total spending by 1.2%. Reducing medical and Social Security payments directly impacts consumer spending throughout the economy. On the revenue side, raising taxes seems unlikely under the current administration. Tariffs might generate about 1% of revenues, but their potential to cause inflation remains unclear.
Avoid major investment strategy shifts based on public information.
The multitude of initiatives, proposals and Executive Orders since Inauguration Day have generated positive feelings for some and negative feelings for others. They have created an environment of uncertainty for all.
- Will inflation continue to moderate or will tariffs, labor shortages and a bird flu push up prices?
- Would allowing Russia to keep Crimea embolden China to seek the same for Taiwan?
- Will investors demand higher interest rates to fund the growing U.S. deficit?
No one knows these answers. It’s impossible to predict how proposed policies will affect our complex, interconnected world. Since any new information is quickly incorporated into financial market prices, it is unlikely that investment strategy shifts will add value. While maintaining a diversified portfolio might not feel exciting, it remains your best strategy during these uncertain times.
Consider consulting with a financial advisor who can provide tailored recommendations for your specific situation.