Predictions of Uncertainty

This is a guest post from Joni Clark who is the Chief Investment Officer at our partner, Loring Ward.

What is the stock market going to do over the next year? And how about the economy?  Wouldn’t it be great to know in advance?   At the end of every year, Wall Street prognosticators look into their crystal balls and try to answer these questions.

Social Media Trends for 2012If you are confused about which prediction to heed for a good estimate of this year’s returns, don’t worry — the data suggests you’d be better off flipping a coin.   With Wall Street strategists’ dismal track record of predicting the future, it is hard to see why they even bother to try.

Since the turn of the century, the average yearly prediction has been off by more than 10%, according to data from Bloomberg. That almost matches the average market rise or fall over the same period!1  Their accuracy in predicting the markets in 2012 was no better. Predictions were overwhelmingly negative, and many predicted another lackluster year for stocks in 2012 based on continued troubles in the global economy.

The S&P 500 will fall 7.2% for the year.”

— Adam Parker, U.S. stock strategist at Morgan Stanley 

“The U.S. stock market will end slightly up for the year…another lost year like this one.”

Forbes Magazine (December 21, 2011)

Twelve months and a million headlines later, we can now see these professional guesses for exactly what they are. Slow economic growth, debt concerns, dysfunctional politics and a troubled euro zone could not stand in the way of financial markets this year.

The U.S. stock market bounced back even in the face of much negative news and uncertainty, and the S&P 500 Index finished up a healthy 16% for the year. Yet, more than 65% of investment managers benchmarked to the S&P 500 Index failed to beat it in 2012.2   Perhaps they spent too much time listening to the gloomy predictions.

The region of the world that was considered the worst place to invest at the start of 2012 was Europe because of their severe debt crisis and the potential breakup of the European Union.   Another 2012 prediction that failed was the potential collapse of the Euro, which was widely publicized in the financial media as “the Grexit.”

Greece will begin official negotiations to exit the Euro…

— The International Business Times (December 22, 2011)

Money managers who bet against the conviction of European leaders to hold together the 17-nation currency union missed out on some of the best investment opportunities.

Contrary to all of the negative predictions for 2012, stock market returns were strong across the globe. Turkey, Egypt and the Philippines were the top performing country markets. Would you have guessed that going into 2012?

How Can Economic Strategists and Financial

Analysts Get It So Wrong?

The future is unknowable to all of us. Predictions are nothing more than a game of chance or a professional guess.

Successful forecasting is about predicting both what will happen AND how the markets will react to those events. That’s a tough challenge for the best of financial professionals.

Since markets react quickly to new information, any developing economic news is important to stock prices only if it is different from the information and expectations already reflected in market prices.

The reality is that we live in an uncertain world, and uncertainty (while uncomfortable) is a natural part of investing. It is rare for us to have the luxury of being sure of anything — with or without predictions from the so-called experts.

In our quest for certainty, some of us may be tempted to make changes to our portfolios based on financial headlines or market forecasts, but in most cases we would be better served to stay focused on our long-term investment strategy and avoid impulsive moves based on hunches about the future.

Stock market predictions are about as dependable as the horoscope — so let’s not rely on them in 2013.

As the legendary economist, John Kenneth Galbraith put it,

 “The only function of economic forecasting is to make astrology look respectable.

Fortunately for all of us, astrological predictions of the end of the world based on the Mayan Calendar also got it wrong in 2012. While the ongoing news headlines can be worrying for many people, it’s important to remember that by the time you read about it in the newspaper, the markets have already absorbed that information and have moved on to something else.

The good news is that we don’t need to be able to forecast the market to have a successful investment experience. Instead, we need a disciplined and diversified “all-weather” portfolio strategy that does not fall apart when the markets don’t perform well in any given year.

 

1Financial Times, December 7, 2012, “Investing Forecasts Omit Key factor — Luck.”
2“Almost All of Wall Street Got 2012 Market Calls Wrong,” www.bloomberg.com/news/print (January 4, 2013)

 

Past performance does not guarantee future results and the value of an investment will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Stock investing involves risks, including increased volatility (up and down movement in the value of your assets) and loss of principal.
© 2012 LWI Financial Inc. All rights reserved. (“Loring Ward”) is an investment adviser registered with the Securities and Exchange Commission. Securities transactions may be offered through Loring Ward Securities Inc., an affiliate, member FINRA/SIPC. B13-011 (Exp. 1/15)

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