FINANCIAL MARKET UPDATE 8.3.2021

AUTHOR: JOSH JENKINS, CFA

STORY OF THE WEEK

ARE MARKET FORECASTS VALUABLE?

Every quarter my inbox becomes inundated with ‘Market Outlook’ content. Composed by strategists, economists, and money managers, these pieces are well polished and full of thoughtful analysis from very intelligent people. The good ones include interesting and informative observations about the current environment. Many of them, however, focus on trying to forecast how things will play out in the near future. The firms that produce these forecasts generally dedicate meaningful resources to make them, and they do so for good reason, there is significant investor demand for them. While there is an obvious appeal to seeing into the future, investors should remember that doing so is impossible.

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.  – Warren Buffett, 1992 Shareholder Letter

Buffett isn’t shy about his view on forecasting, and we definitely agree with it. According to Paul Hickey, a co-founder of Bespoke Investment Group, the recent record of stock market forecasts has been abysmal(1). Between 2000 and 2020, the median Wall Street forecast for the stock market’s return in the coming year has missed the mark by an average of 12.9%! For context, the long-term average return for the S&P 500 is roughly 10% per year. That is a huge average miss. Additionally, forecasters never once predicted a negative return, despite a calendar year loss occurring on six separate occasions over the period.

In his book, ‘Mastering the Market Cycle,’ Howard Marks condensed his view on forecasting into three superb bullets:

  1. Most economic forecasts are just extrapolations. Extrapolations are usually correct but not valuable.

Marks expanded on this bullet, contending that forecasters typically look at current levels and extrapolate based on long-term trends. Since the economy infrequently deviates from its long-term trajectory, this type of forecast is often correct. The problem arises because this information is well known and is typically already baked into stock prices. It is therefore useless for earning above-market returns.

  1. Unconventional forecasts of significant deviation from trend would be very valuable if they were correct, but usually, they aren’t. Thus most forecasts of deviation from trend are incorrect and also not valuable.
  2. A few forecasts of significant deviation turn out to be correct and valuable – leading their authors to be lionized for their acumen – but it’s hard to know in advance which will be the few right ones. Since the overall batting average with regard to them is low, unconventional forecasts can’t be valuable on balance. There are forecasters who became famous for a single dramatic correct call, but the majority of their forecasts weren’t worth following.

The conclusion is that market forecasts are most likely either accurate but useless or inaccurate and harmful. Despite this reality, investors continue to clamor for them. The current environment is certainly no exception.

The market has been on a tear for the last year, but recently it has stagnated. Fiscal stimulus has helped, but government spending is poised to slow down. Accommodative monetary policy has supported asset prices. Will transitory inflation allow the Federal Reserve to keep it that way? Or will persistent inflation force the Fed to remove the punchbowl? The vaccination campaign has allowed the economy to reopen. Will the spread of the Delta variant force it to shutter once more?

I know that I do not know how any of this plays out. There is an army of people that will try to convince you that they do. The one prediction I am willing to make is that, in the long-term, investors would be better served by holding a diversified portfolio rather than constantly repositioning a portfolio to bet on the next forecast.

It’s not what you don’t know that can hurt you. It’s what you know for sure that just ain’t so. – Mark Twain

1. Source: Memo to Oaktree clients, titled ‘Thinking About Macro’, by Howard Marks & The New York Times Article ‘Clueless About 2020, Wall Street Forecasters Are at It Again for 2021’.

WEEK IN REVIEW

  • Earnings season continues, with 59% of S&P 500 companies having reported results thus far. The earnings growth rate for companies that have reported, blended with the estimates for companies that have yet to report, is currently 85.1%. This growth rate would be the highest since Q4 2009 (109.1%) and is substantially higher than the earnings forecast as of the end of Q2 (63.1%).
  • Last week the Bureau of Economic Analysis (BEA) published their initial estimate of GDP for the 2nd quarter, which came in at a 6.5% annual rate. Ordinarily, that figure would be amazing, but compared to the forecast of 8.4%, it was sharply lower than expected. A substantial decrease in inventory levels was a large drag on GDP, as company production was insufficient to meet current demand. The good news is that replenishing inventories should offer a boost to economic growth in the future. Additionally, the Fed held a monetary policy meeting last week. As expected, the committee held rates unchanged. The Fed also provided a signal in the official post-meeting statement that it may soon announce plans for tapering (reducing asset purchases).
  • The next Jobs report will be published by the Bureau of Labor Statistics (BLS) Friday morning and will headline this week’s economic data releases.

ECONOMIC CALENDAR

Source: MarketWatch

HOT READS

Markets

  • U.S. GDP Rose 6.5% Last Quarter, Well Below Expectations (CNBC)
  • Fed Holds Rates Near Zero, Says Economy has Gotten Better Even With Pandemic Worries (CNBC)
  • Reduction in Fed’s Asset Purchases Might Not Spark ‘Taper Tantrum’ (WSJ)

Investing

  • U.S. GDP Rose 6.5% Last Quarter, Well Below Expectations (CNBC)
  • Fed Holds Rates Near Zero, Says Economy has Gotten Better Even With Pandemic Worries (CNBC)
  • Reduction in Fed’s Asset Purchases Might Not Spark ‘Taper Tantrum’ (WSJ)

Other

  • Austin Bills? NFL Owners Are Running Out of Plausible Ways to Squeeze Taxpayers (Sports Illustrated)
  • Why Even the Fastest Human Can’t Outrun Your House Cat (Wired)
  • Just Getting More Sleep Might Not Improve Productivity and Well-Being, a New Study Finds (Fast Company)

MARKETS AT A GLANCE

Source: Morningstar Direct.

Source: Morningstar Direct.

Source: Treasury.gov

Source: Treasury.gov

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Do you want to receive financial market updates in your inbox? Sign up here! 

ABOUT THE AUTHOR

402.763.2967

jjenkins@lutz.us

LINKEDIN

JOSH JENKINS, CFA + CHIEF INVESTMENT OFFICER

Josh Jenkins is the Chief Investment Officer at Lutz Financial. With 12+ years of relevant experience, he specializes in assisting clients with portfolio construction, asset allocation, and investment risk management. He is also responsible for portfolio trading, research and thought leadership as well as analytics and operational efficiency for the Firm's Financial division. He lives in Omaha, NE, with his wife Kirsten.

AREAS OF FOCUS
  • Asset Allocation
  • Portfolio Management
  • Research & Data Analytics
  • Trading System Operation & Execution
AFFILIATIONS AND CREDENTIALS
  • Chartered Financial Analyst®
  • Chartered Financial Analyst Institute, Member
  • Chartered Financial Analyst Society of Nebraska, Member
EDUCATIONAL BACKGROUND
  • BSBA, University of Nebraska, Lincoln, NE

P: 402.827.2300 | F: 402.827.2319 | E: contact@lutzfinancial.com | 13616 California Street | Suite 200 | Omaha, NE 68154

All content © 2017 Lutz Financial  | Important Disclosure Information |  Privacy Policy

FORM CRS RELATIONSHIP SUMMARY