EXPECTATION TRAP

SET EXPECTATIONS TOO HIGH AND LOSE; SET THEM TOO LOW AND STAGNATE - BOTH LEAVE INVESTORS IN A DILEMMA

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Setting high expectations in the stock market is one of the most common yet least discussed reasons for poor long-term returns.

The danger does not lie in ambition, but in misjudging how markets actually behave. When expectations are disconnected from reality, they trigger behavioural responses that systematically destroy wealth. Decades of data, academic studies, and real-world investor outcomes clearly support this view.

Even Benjamin Graham, the father of value investing, warned investors. He said, “The investor’s chief problem - and even his worst enemy - is likely to be himself.” Expectations are the mechanism through which that enemy operates.

RETURNS ARE ANCHORED TO ECONOMIC AND BUSINESS FUNDAMENTALS

What investors earn from the stock market is ultimately a reflection of economic reality. Returns are not generated by optimism or expectations but by corporate earnings. Companies can earn only as much as customers are willing and able to spend, and customer spending is constrained by income growth, employment conditions, credit availability, and overall economic confidence. If economic growth is moderate, corporate earnings cannot sustainably grow at an extraordinary pace. Markets may temporarily disconnect from this reality, but over time, prices realign with earnings.

CAPITAL ALLOCATION FOLLOWS THE COST OF CAPITAL

A useful way to understand return limitations is to view markets from a businessman’s perspective. An entrepreneur invests capital only when expected returns exceed the risk-adjusted cost of capital. If the cost of borrowing is around 8%, a businessman may invest in a plant expecting a return of 15%-16% to compensate for operational risk, competition, and economic uncertainty. These expectations are grounded in real-world constraints, not in market narratives or speculative optimism.

WHY BUSINESSES CANNOT DELIVER EXCESSIVE EQUITY RETURNS