Question

Explain whether there are typically differences between the past performance and the future performance of a financial investment? If not, why not?

Answer 1

There may be differences between past performance and future performance of a financial investment. This could depend on various factors, some are listed below :

• Time horizon - Every industry and sectors experience its own boom-bust cycle - this could typically be around 5 years. Hence, a past trend factoring only once cycle would not accurately indicate future performance of the related financial investment. While, analyzing data for a 10 year period or more would consider multiple cycles and how prices had fluctuated during the period could ideally give an indication of the future trend; however, there could be many qualitative factors as well impacting the demand and supply situations at the same time
• Factors like regulations, geo-political environment, changing customer preferences, technology etc. would also impact the future performance of financial investments which would not get reflected in the past data
• Change in fund managers, objectives and risk appetite of the investment or fund management firm could also prove to be a factor in differences between past and future performances of investments in question.
• Changing credit or financial health of companies

With the above being said, trend analysis of past performances can be useful in a stable environment, wherein significant changes are not expected. This would typically be applicable for mature companies or economies. However, it is advisable to give importance to fundamentals/ qualitative considerations along with quantitative analysis to arrive at investment decisions.