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Observations on the Market //

Weather and Economic Forecasts Have a Lot in Common; They Are Often Wrong

Written by Greg Denewiler, CFA® // June 23, 2022

Everybody does it, including you. We all think we can predict the future, at least to some degree. It is probably in our DNA to survive. We also think other people can predict the future too, and in times of “stress”, we look around for opinions from people that we think have creditability. They have usually achieved some level of success which makes them appear trustworthy. If their opinion agrees with ours, we have just confirmed that we are also smart. This is called confirmation bias. When prices appear to be in a trend, it is human nature to expect more of the same. When the market goes straight up, we think it will continue. When it grinds lower, we start to question if it will ever stop. The media feeds the whole process, and sometimes there isn’t even any relevance or accountability to the topic. Do you tune into The Weather Channel on TV to get the forecast, or be entertained? The forecast is available instantly on your phone. You probably watch the channel because you want a story, the latest natural disaster, or maybe even a show that has nothing to do with weather entirely. The Weather Channel is there to just sell ads, not make weather predictions. Everyone around you wants to capitalize on the moment for their gain, and the media wants to sell ads.

 

Mohamed El-Erian is a big name in the financial world. His resume includes studying at Oxford and Cambridge, CEO of PIMCO (a large mutual fund company), faculty of Harvard Business School, CEO and lead advisor to the Harvard Foundation, worked at the International Monetary Fund, and was chair of President Obama’s Global Development Council. Considering his extensive background, he must be credible and qualified to predict the future, right? In 2009 Mohamed was a frequent guest on all the financial networks pontificating about his new market outlook which was defined as “The New Normal”. It was a disheartening view of the future consisting of a slow growth and low return environment, and he was predicting that our economy had shifted into this new state. Essentially, he argued the effects of the 2008 recession were so severe that they would linger for years. Thanks to the Fed, Mohamed was wrong, and by a lot. The 2010s were one of the best-performing decades in the market’s history. Weather forecasts and economic forecasts have a lot in common; they are often wrong, but they still want your attention.

 

The forward interest rate curve is often used by investors to forecast where interest rates will be in the future and has been mentioned in this letter in the past. Lately, the interest rate curve (the forward curve) has been changing signals (predictions) daily. It goes from indicating higher rates that are needed to fight inflation, to suggesting lower rates due to the fear of a recession, all in 24 hours. The indecision has become literally a daily occurrence, switching between fears of recession and the pressure of inflation. The Treasury bond market is supposed to consist of institutional investors who have some idea of what is going on. If you use them for investment advice currently, you will be out of money before the end of the month. Then there was this headline from MarketWatch today: “Recession. Millions of layoffs. Mass unemployment… Read Now.” If you click on the Read Now link you will see about as many ads as there is content in the story. Do they really believe the content of this article or just want to sell you something? The antidote is to not pay attention to sensationalized headlines or read ads.

 

It is the same advice as always, if you are receiving a reasonable income from your investments and you don’t pay too much for them, compounding will be the ultimate winner. It is like owning a casino. You know in the end the house will win, however, there are a few players that occasionally win big. But if they stay at the table long enough you know the outcome. In the market, the emphasis is on staying at the table long enough. It is much easier now to find attractive growth dividends, and additionally, you have the confidence you are paying a lot less than six months ago. Being able to reinvest at lower prices should be every investor’s dream. Unfortunately, hoping for lower prices also doesn’t appear to be in most investors’ DNA either.

 

Even during the worst financial crisis in our history, from 1930 to 1940 GDP still managed to show some growth. With dividends reinvested, the market over that same decade was only down 1%. From 1940 onward GDP trends up at about 6% (including inflation) per year. Depression-era investors were tempted to just put their money in the mattress, but the next eight decades created fortunes. In our current market, it feels like mattress predictions grow by the day.

Observations On The Market No.372