All Markets Are Uncertain

The Forecasters' Hall of Fame Has Zero Members

TLDR: I started this blog with the notion that, barring active intervention, all of us suffer from day-to-day anxiety because there is so much uncertainty. My experience has shown me that many use forecasts in an attempt to establish certainty in their world. Forecasts aren’t helpful to most folk. This week’s discussion is designed to help you worry less about the behavior and unpredictability of investment markets.

There are a million forecasters

This is, maybe, inaccurate. Let’s agree that there are lots of them. Here a few 2023 forecasts.

JP Morgan: “In the first half of 2023, the S&P 500 is expected to re-test the lows of 2022, but a pivot from the Fed could drive an asset recovery later in the year, pushing the S&P 500 to 4,200 by year-end.”

My summary: Markets should go down and they might go up.

Jeremy Grantham: My calculations of trendline value of the S&P 500, adjusted upwards for trendline growth and for expected inflation, is about 3200 by the end of 2023. I believe it is likely (3 to 1) to reach that trend and spend at least some time below it this year or next. Not the end of the world but compared to the Goldilocks pattern of the last 20 years, pretty brutal. And several other strategists now have similar numbers. To spell it out, 3200 would be a decline of just 16.7% for 2023 and with 4% inflation assumed for the year would total a 20% real decline for 2023 – or 40% real from the beginning of 2022. A modest overrun past 3200 would take this entire decline to, say, 45% to 50%, a little less bad than the usual decline of 50% or more from previous similarly extreme levels.”

My summary: Markets are going to implode.

Goldman Sachs: “We expect another year of below-potential growth and further labor market rebalancing in 2023 to solve much but not all of the underlying inflation problem. Unlike consensus, we do not expect a recession. “

My summary:

Virtually every investment manager of any size provides some sort of forecast.

The first month of 2023 has seen the S and P increase from 3,853 to 4,158 as of Feb 2, 2023. That is a 7.9% increase. In January, 1925, the S and P stood at 10.58. It’s now 4,158. That’s a 39,301% increase.

In any given year, someone, simply due volume of forecasts, is “right”. I have yet to see anyone who can repeatedly, accurately forecast market outcomes. What we can say, with all certainty, looking backward, is that the S and P (and virtually every other market) has inexorably risen.

I find it interesting that there is no Forecasters’ Hall of Fame. There is no one to induct. Not even this guy is in there:

There are market forecasts every year

We see forecasts every single year, often revised during the year. What they cannot account for on a forward basis are many things: Covid, wars, weather disasters, and overthrows of governments, to name a few. If you chart them out, unexpected events occur with regularity. They tend to throw people into paroxysm. People subsequently react, resulting in gyrating markets. Over long periods, these events, at least to date, have no negative effect.

So how do forecasters stay in business?

Our brains hate uncertainty. We hate loss, generally, twice as much as we like gain (“loss aversion” - see Kahneman/Tversky and Thaler, for example). We do not like to quit (I encourage you to read Quit, Annie Duke). We crave reinforcement that we should stay in the game. Forecasts provide, we think, some certainty that someone knows what the market machine will do. We can adopt the logical narrative associated with the forecast when it aligns with what we want to believe. This way, we can make, positive, aggressive, feel-good decisions with a (false) level of certainty.

Forecasters stay in business because we keep them in business. We reward their firms with our investment dollars. These folks are all over the news. It makes sense when you ignore the data and let your emotions drive the investing bus.

Traditional uses of forecasting are often mostly destructive

When I say this, I am referring to non-professional investors, whose goal is generally to find some point in your life, sooner rather than later, when you can say: “I do not need to work and can live a life I can enjoy without worrying about money.”

If you are investor, and I am distinguishing investors from traders, it is clear that making frequent, substantive changes to your portfolio reduces your returns. There is plenty of research finding that the associated anxiety and stress are damaging to your mental and perhaps physical health.

Here are returns by asset class for the last ten years. Few forecasters were picking, in 2020, Commodities as the highest returning investment for 2021 and 2022, much less consecutive returns of 38.% and 22%. Chinese equities are the 2023 winner to-date, which is surprising to me and probably you, too (try Googling “negative news on China”). What this chart clearly says is that predicting the annual performance of an investment/asset class is a loser’s game.

Key: Equities in green, Bonds in gold, Private Markets and Commodities in red.

Source: https://www.blackrock.com/corporate/insights/blackrock-investment-institute/interactive-charts/return-map

The same is true for overall markets. You can head here if you want the data.

If there is a way to turn this random performance into a repeatable and coherent prediction process, well, nobody’s shown that to me yet. Realistically, if someone could do this, they’d have everybody’s investment dollars.

What I do think can be useful about forecasts is reinforcing this: There is almost always a wide range of potential outcomes. Every year, prepare yourself for variability and volatility. Do your best to accept the unpredictability. Easy to say, Mark, and hard to do. Understood. This is where routine can save you.

What can I do?

Statistically the most accurate forecast is to say: “I have no idea. What I do know is that long periods, where you make few changes, have historically been extremely rewarding to investors.” We can also note, quite accurately, that something will happen which we could not predict.

Indisputably, compounding works if you do not interrupt it. Establish a set of habits and routines to minimize compounding interruptions and to avoid reacting to forecasts.

Ignore the forecasters. Their job is to sell clicks, eyeballs, and in the end, advertising. Not a single one of them is responsible for your investment success, nor do any of them have any responsibility for your financial wellbeing or what Brian Portnoy (me, too, but he wrote the book!) calls funded contentment. Your financial wellbeing is the accountability of yourself and, should you choose to hire a partner (pick your term), a real financial advisor/financial guide/financial coach. Regardless of title, if you are going to employ someone, I think you should hire someone who serves as much more than an investment manager. I am not saying that everyone needs an advisor. I am saying that if you hire one, hire one that looks at everything, not just the investments that you entrust to that person.

Have a plan. Use the planning process to determine how to get to your desired outcomes. Understand what your “enough” is. A plan has a starting point. It points to a desired outcome (which, can, of course, change). It addresses your cashflow - your income, your spending, and your saving capacity. From this you can create a savings plan. Planning is a process. Things change. Repeat when necessary.

Stick to your strategy. You might have a three fund strategy. You might be diversified across eight to ten asset classes. Maybe you want to invest US only or international only. Any of these can work if you use the right process. I am a fan of more diversification rather than less. That is what I see in the data.

Save continuously and automatically. Automatically move money from your bill-paying account to your savings account(s). Maintain savings to save and savings to spend. Save a little more than you think you should. If you save “enough”, then you can spend with abandon. And you should.

Maintain a cash reserve. Being able to deal with things that will happen and cannot be predicted, stress-free, is a wonderful thing. A cash reserve allows you can stay in the long, value-creation game. Getting forced out, because you need cash, can be devastating. Just ask the over-levered, under-reserved real estate investors of 2008 and 2009 or many crypto-focused folks.

Understand that this is not necessarily a fun process. It’s boring. For most, people, it works.

The way to win? Put yourself in a position where you can stay in the game. And remind yourself: The Forecasters’ Hall of Fame has zero members.