An investor with some (remaining) exposure to Greece, Spain or Italy would agree that we live in uncertain times. Predicting the future is a rather futile exercise, in response pension funds and investment managers are shifting towards the use of scenarios. Van Notten[1] wrote a very instructive chapter in an OECD Study on the use of scenarios. The word scenario has four different uses:
- Sensitivity analysis, whether in cash flow management, risk assessment, or project management.
- Contingency plan defining who is to do what during a particular event as used in military or civil emergency planning.
- Contingency plan but applied to decision-making in corporate or public policy.
- Scenarios as a more exploratory tool so that a scenario is less a strategy and more a coherently structured speculation, of interest for education.
On one point there is consensus: it is not a prediction or forecast. Pierre Wack[2], an executive at Royal Dutch who pioneered scenario planning, finds that “Forecasts are not always wrong; more often than not, they can be reasonably accurate. And that makes them so dangerous, They are usually constructed on the assumption that tomorrow’s world will be much like today’s […] forecasts will fail when they are needed most: in anticipating major shifts in the business environment that make whole strategies obsolete. […] The better approach, I believe, is to accept uncertainty, try to understand it, and make it part of our reasoning.”
