Projections, Why?

Whenever we transition into a new year, a slew of gurus come out of hiding to proudly share their projections for the upcoming 12 months. “The S&P 500 will make all-time highs; the US will avoid recession; Japanese markets will lead the way; the Fed will start cutting rates by June.” For the most part, these prognosticators are super bright and very convincing.

It is difficult to make predictions, especially about the future. – Yogi Berra

Although a good part of financial planning and investment management involves making some projections, I try not to join these gurus each year for two reasons: (1) short-term predictions about the economy and markets are widely wrong, and (2) correct short-term predictions are not often helpful. 

Predictions are widely wrong

Look below at Visual Capitalist’s list of consensus predictions for 2023 (last year). This list was built from information grabbed from over 500 articles, reports, podcasts, and interviews:

These predictions looked entirely believable as we headed into 2023, but we can now see how many actually came to pass. By my count, only seven (28%) of these were accurate, thirteen (52%) were wrong, and the rest (20%) were somewhere in the middle.

Unfortunately, this low score is not unusual. One of my favorite financial writers, Larry Swedroe, tracked an annual “Financial Sure Things” list for more than a decade. These items were widely held financial predictions for the upcoming year pulled from the financial media, financial advisors, and investors. Here is how the record looked for the 11 years he tracked things:

Yes, you read that right. Out of the 86 “sure things,” only 30 (35%) ended up happening. Flipping a coin would have been a better strategy year after year.

Warren Buffet summed this up well in 1992 when he wrote: "We’ve long felt that the only value of stock forecasters is to make fortune tellers look good. Even now, Charlie and I continue to believe that short-term market forecasts are poison and should be kept locked up in a safe place, away from children and also from grown-ups who behave in the market like children."

Correct predictions are not helpful

Flashback to one year ago. Imagine someone told you 2023 would see: 

• the US government hit its $31.4 trillion debt limit, 
• the US shoot down a Chinese spy balloon, 
• the failure of three large regional banks, 
• the hottest global temperatures ever recorded, 
• a credit rating downgrade for the US government, 
• peak oil prices, 
• the House Speaker ousted a amid government budget and shut down debate, 
• the start of the horrific conflict between Israel and Hamas, and
• 10-year US Treasury yields hitting 5% for the first time since 2007. 

How would you have wanted to invest your portfolio at that time?  

Of course, nobody with this information would have expected any gains (much less double-digit market gains) in the face of these events. In this case, seeing the future clearly and acting on the news would have lost you solid gains. Sadly, we have to get the predictions and the market’s reaction to the predictions correct to make a profit. The markets do not follow the laws of physics where the inputs tell us the outputs; instead, they more closely resemble psychology, where things are often paradoxical and messy. 

What I recommend instead

I’d love to say that I understood how unhelpful short-term predictions were when I started investing 30+ years ago, but it took many years for me to get to my current views. Although I’m sure I will continue to evolve, rather than making short-term predictions I try to do the following: 

Be humble – When I nod in agreement with any short-term projection, I remind myself that chances are less than 50% that any guess is correct. As Warren Buffett points out, “Forecasts may tell you a great deal about the forecaster; they tell you nothing about the future.” If many of the best investors in the world made their wealth without making market and economic predictions, I can certainly do the same.

Diversify – One of my main goals when investing is to build “resilient” portfolios. Structures are built to withstand whatever nature throws at them (heat, cold, wind, rain, etc.). Similarly, it’s best to build investment portfolios that withstand whatever’s thrown at us (recession, interest rate moves, inflation, political silliness, fear, greed, etc.). This consideration is the reason your portfolio has a mix of diverse holdings. 

Think longer-term – Although short-term predictions of the stock and bond markets are impossible to get right consistently, we have a decent chance with longer-term predictions. When interest rates are high, we expect returns from the bond markets to be higher than average. When stock valuations are low, we expect returns from the stock markets to be higher than average. Unfortunately, these expectations are over seven to ten years, not seven to ten months. 

I’ll go out on a limb and predict these strategies will lead to better outcomes over time.