How wealthy can perfect foresight make an investor?
Andrew Lo, Harris & Harris Group professor and director of the Massachusetts Institute of Technology Laboratory for Financial Engineering in Boston, quizzed attendees during a Feb. 22 speech on hedge funds at the CFA Institute's Risk Symposium in New York. He pointed out that if an investor invested $1 in the Standard & Poor's 500 index on Jan. 1, 1926, that investor would have had a little more than $4,000 at the end of 2005. He also noted that if an investor put $1 into the Lehman Brothers Aggregate Bond index for the same period, that investor would have had $18. Then Mr. Lo asked the crowd to guess how much an investor would have made if the investor had perfect foresight and moved that same $1 between the Lehman Aggregate and the S&P 500 at the precise times when one index was up and the other was down. Answers from audience members ranged from $10,000 to $1 billion. As it turned out, they weren't even close. The actual answer, said Mr. Lo, is that an investor with perfect timing ability would have made a little more than $23 billion at the end of 2005.
"I asked my MBA students that question, and told them if anyone gets within 5% of the right answer, I'd buy them lunch in the M.I.T. cafeteria," Mr. Lo told the audience. "To date, I've never had to buy anyone lunch."