Adaptive Expectations

Adaptive expectations is a theory about the way individuals decide how to make investment decisions. According to the theory of adaptive expectations, individuals use recent trends to predict the future and base investment decisions on those predictions.

So for example, if inflation has been running at roughly 3% per year, investors would assume that inflation would run at roughly 3% per year in the near future and would use that figure when making calculations.

Of course, we know that the economy doesn’t always keep performing just as it has been performing, so if this theory is correct, most investors will be caught in miscalculations any time there’s a drastic change in economic performance.