With global equities back at record highs just months after April’s sharp selloff, investors appear to have concluded that downturns are little more than fleeting buying opportunities. As we move through August 2025 it’s hard not to get a sense that a dangerous complacency has begun to creep into markets.
At the recent Jackson Hole Symposium, an annual get together for central bankers and economic policy experts, Fed. Chair Jerome Powell took a decidedly dovish tone in his keynote speech. As is the way with these things, his signalling of possible rates cuts, itself a sign of weakness in the economy, prompted equity markets to rally.
A quick scan of equity markets reveals most are at all-time highs having rebounded strongly from April’s “Liberation Day” lows, with gains ranging from Europe +20%, ASX +22%, FTSE +23%, MSCI World +30%, S&P500 +30%, Nasdaq +41%. Meanwhile credit spreads, often used as a barometer of investor appetite of risk (as visualised in the chart below), are at 20-year lows, a clear sign of complacency.
Perhaps it’s the muscle memory of the Covid crash, where markets rapidly recovered on the back of the US Fed’s interventions, which has convinced investors to always “buy the dip”. This marked one of the fastest bear markets and recoveries in history. While most markets recovered within six months, the Nasdaq hit a new high a mere 78 days after hitting its maximum low.
Markets have historically always gone up over the long-term meaning it usually pays to be optimistic. Indeed, many financial experts have built careers on the concept of “just keep on buying” while Warren Buffet famously said, “For 240 years, it’s been a terrible mistake to bet against America.”
“For 240 years, it’s been a terrible mistake to bet against America.” – Warren Buffet
The caveat, however, is that markets tend to punish complacency and are replete with idioms that convey this sense of taking on too much risk, the classic being “getting over your skis”. As Dean Curnutt often says on the Alpha Exchange podcast “hedge when you can, not when you have to”.
If only AIG executive Joseph Cassano had heeded this advice. In August 2007 he infamously said, “It is hard for us, without being flippant, to even see a scenario within any kind of realm of reason that would see us losing $1 in any of these transactions.” Within a year, AIG required one of the largest bailouts in history.
This is a pattern we see repeated in investing time and time again.
Investors tend to downplay risks during the good times and exaggerate them during the bad.
There are dozens of human behavioural biases and heuristics at play in the decision-making process. Some of the more well-documented include:
- Confirmation bias – the tendency to seek out information that confirms your existing beliefs and ignore information that contradicts them.
- Optimism bias – the tendency to overestimate their chances of experiencing positive life events. We see this where investors tend to overestimate the performance of their portfolios.
- The ostrich effect – the tendency to avoid negative or unpleasant information. Investors have been shown to avoid checking their portfolios during market downturns.
- The fading affect bias – where memories associated with negative emotions tend to be forgotten more quickly that those associated with positive emotions.
The affect heuristic is a related behaviour where a positive or negative feeling towards a situation influences perception of its risk. The affect heuristic helps explain the herd behaviour we see in markets during periods of fear and greed. In the current context this means if investors are feeling positive following recent gains, they will tend to become more bullish and underestimate risks.
The affect heuristic is also well known in the world of sports psychology. For the rugby fans among you, this is why Damien McKenzie smiles just before taking a kick at goal. The positive feeling elicited by smiling tends to boost his confidence in part because he will be underestimating the risk of missing. Interestingly this is not just a trick of the mind, it also works if you are subliminally shown pictures of smiling faces. Studies have shown that smiling can increase pain tolerance and enhance the performance of endurance athletes.
Perhaps it’s unfair to imply that it was complacency that led the All Blacks to their first ever defeat in Argentina, however there is little doubt that buoyant equity and bond markets are bringing a false sense of security about the risks of paying high prices for assets.
As investors, we need to stay alert to biases that affect our judgement and resist simply following the herd. By staying disciplined, questioning assumptions and ensuring you are diversified, we believe it is possible to avoid complacency and build resilient portfolios for all market conditions.
Get in touch with Mark or Sam if you’d like to discuss this article in more detail.