The Problem With Prognostication: Why You Shouldn’t Invest Based on “Expert” Predictions

I find predictions, and the people who make them, fascinating for a few reasons. First, I — like everyone — would love to get a hint of what's coming up.

But successful forecasting is pretty difficult. Which brings us to the second reason why I like predictions: It's entertaining to see how different the world turned out from how people expected. Here are several memorable predictions of yore:

  • “Radio has no future. Heavier-than-air flying machines are impossible. X-rays will prove to be a hoax.” William Thomson, Lord Kelvin, British scientist, 1899
  • “Television won't last because people will soon get tired of staring at a plywood box every night.” Darryl Zanuck of 20th Century Fox, 1946
  • “They couldn't hit an elephant at that distance.” Final words of Union General John Sedgwick, 1864
  • “Atomic energy might be as good as our present-day explosives, but it is unlikely to produce anything very much more dangerous.” Winston Churchill, 1939
  • “Who the hell wants to hear actors talk?” H. M. Warner, Warner Brothers, 1927
  • “It will be years — not in my time — before a woman will become Prime Minister.” Margaret Thatcher, 1969
  • “We don't like their sound, and guitar music is on the way out.” Decca Records, when rejecting the Beatles in 1962
  • “The abdomen, the chest, and the brain will forever be shut from the intrusion of the wise and humane surgeon.” British surgeon Sir John Eric Ericksen, 1873
  • “I think there is a world market for maybe five computers.” Thomas Watson, president of IBM, 1943
  • “This ‘telephone' has too many shortcomings to be seriously considered as a means of communication. The device is inherently of no value to us.” Western Union internal memo, 1876
  • “I'm just glad it'll be Clark Gable who's falling on his face and not Gary Cooper.” Gary Cooper, on turning down the lead role in Gone With the Wind

Good stuff.

The blind leading the blind
But we don't have to go back decades to find instances of people (some of them pretty smart) being wrong about the future. Let's flip through the cyber-pages of the Dec. 20, 2007, issue of BusinessWeek, which featured one of those year-end, “where the Dow will be a year from now” types of articles.

So where did six Wall Street experts think the Dow would be at the end of 2008? Dumb roll, please…

  • William Greiner, UMB Financial: 14,400
  • Tobias Levkovich, Citigroup: 15,100
  • Bernie Schaeffer, Schaeffer's Investment Research: 15,300
  • Leo Grohowski, BNY Mellon Wealth Management: 14,800
  • Thomas McManus, Banc of America Securities: 14,700
  • David Bianco, UBS Investment Research: 15,250

You may recall that the Dow was quite a bit lower than each of those predictions on Dec. 31, 2008 — approximately 40% lower, in fact, at 8,776.

Okay, so those people aren't really dumb. In fact, they're likely in possession of above-average intelligence, and work with teams of analysts who also have above-average brains. And they also likely have access to the most data, the fastest computers, and the best software.

And they still were very, very wrong.

Boy, it would be great if we could consistently predict which investments would be the winners and which would be the losers. But it's very difficult; in the short term, it's impossible.

Dr. Doom
Want more proof? By now, you likely have heard and seen Dr. Nouriel Roubini, the NYU professor known as “Dr. Doom” for his pessimistic outlook. He gained a lot of fame for predicting the housing crash and resultant deep recession. Good for him.

In December 2008, Fortune magazine asked Roubini for his predictions for 2009. Here's what he wrote:

For the next 12 months I would stay away from risky assets. I would stay away from the stock market. I would stay away from commodities. I would stay away from credit, both high-yield and high-grade. I would stay in cash or cash-like instruments such as short-term or longer-term government bonds. It's better to stay in things with low returns rather than to lose 50% of your wealth.

Well, you know how good that advice was. The assets that Roubini warned against posted huge double-digit returns in 2009. As for the investments he recommended, the Vanguard Short-Term Treasury Fund (VFISX) returned just 1.4%, and the Vanguard Long-Term Treasury Fund (VUSTX) lost 12.1%.

As Yogi Berra once said, “It's tough to make predictions, especially about the future.”

On my CAPS blog, I occasionally summarize predictions I've run across from the previous week or two. I always break them up into two groups: Those who predict good things for the economy or stocks, and those predict ill. Invariably, the people I quote are all smart, thorough, well-educated people. And they look into their crystal balls and see vastly different things.

J.D.'s note: CAPS is the free Motley Fool website where you can try your hand at picking individual stocks, track your performance, compare your performance to other CAPS players, and see what investments the best CAPS players are picking. GRS first mentioned it about two years ago. I'm no longer one for picking stocks, but if you are, CAPS is worth checking out.

 

But isn't picking stocks the same thing as making predictions? If the future is so hard to forecast, why even try?

Ay, there's the rub. If you're putting money in an IRA or 401(k), you have to choose which investments to buy with that money. And investing, by its nature, is a predictions game; you put your money into the things that you think will be worth more in the future than they are worth today.

So what to do?

The power of diversification
As I've written before, having a well-diversified portfolio is the way to go for most people, because there's no crystal ball required. You own lots and lots of investments, so that something will do well in just about any scenario. You own domestic and international investments; large, mid, and small stocks; index and actively managed funds; and if you own fixed-income investments, then diversify across corporate bonds, Treasuries, and inflation-adjusted bonds.

If you're investing in individual stocks, keep yourself honest by tracking your results. If, after all the time you spend researching and monitoring your stocks, you underperform the market, then perhaps you'd be better off in a mutual fund of some kind. Motley Fool CAPS is a great way to see if you have what it takes to be a stock-picker before you commit too much of your nest egg.

In summary, my fellow Americans (and the Canadians who are reading — darn you and your gold-winning hockey team! — though you put on a great Olympics), unless you put all your money under your mattress, you have to make some guesses about what the future will bring. But do so with great humility and honesty. And beware of any “expert” who is very confident about what will happen. Chances are, if you examine his record, you'll find plenty of reasons he shouldn't be so confident.

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Chett @5k5k.org
Chett @5k5k.org
10 years ago

Funny I wrote about something similar on my site. Here was the “expert” advice I found. Jeremy Siegel, a financial expert and writer for Kiplinger, wrote these comments in a Kiplinger Magazine I re-read this past year that was dated February 2008. “There will be no recession in ’08.” He went on to say, “By the middle of the year, the economy should pick up steam; it should grow 2%-3% in the coming year.” Siegel continued his prediction for 2008 by suggesting, “by June the subprime-mortgage disaster will ease.” Regarding foreclosures he said, “The foreclosure crisis will ebb and as… Read more »

Tom
Tom
10 years ago

Nice article,.
Roubini uses a very sophisticated strategy, one that lets you win eventually. 🙂

Read more at:
http://www.erictyson.com/articles/20081024_1

basicmoneytips
basicmoneytips
10 years ago

Interesting article, just goes to show you that you cannot predict the future.

It seems as the ideas of being in the market over the long term as well as diversifation really do play an important role in someones investment strategy.

I would challenge people to think outside the box with diversification. Perhaps rental property or buying farm land is an avenue to explore.

Molly On Money
Molly On Money
10 years ago

Investing your money is gambling. You can surround yourself with intelligent people on and about money investment but when I start hearing the ‘predictions’ come out of intelligent peoples mouth I stop listening and pretend they are doing a funny little dance for me. Why? Because predictions on the stock market= entertainment, nothing more.
Curiously, I forgot that while I was making money on my investments.

Kent @ The Financial Philosopher
Kent @ The Financial Philosopher
10 years ago

Many predictions are a product of confirmation bias, which is the scientific term describing people’s desire to find information that agrees with their existing view or emotional disposition.

Information that reinforces favored preconceptions is selectively over-weighted (also known as self-attribution bias) and any information that conflicts with this view is ignored.

“Faced with the choice between changing one’s mind and proving there is no need to do so, almost everyone gets busy on the proof.” ~ John Kenneth Galbraith

Meghan
Meghan
10 years ago

Robert, I think you mean our gold medal hockey teams. Our women’s team won as well. 🙂

Great article and solid advice. I love the past predictions. I don’t even pretend to know where the market is going to go, or what technologies we will be using in ten years.

Steve R
Steve R
10 years ago

Exactly why I find the likes of Kevin O’Leary and Jim Cramer very entertaining. Listening to them is like a visit to the carnival side show. Lots of hocus pocus and flowery jargon. None have any influence or place in my investment portfolio. I find those that “preach” about investing are looking to make a buck of the consumer/investor, hence the disclaimer at the end of every show.
Many of the “financial gurus” fall into the same category as the late Billy Mays, Anthony Sullivan and ShamWow Vince.
When investing the best advice is “caveat emptor”.

Pop
Pop
10 years ago

I think the real problem with prognostication is that the experts, analysts, or whoever leave out or don’t have room to state how sure they are in their prediction. The news media is interested in them saying “I think the Dow will be at 14,000 next year,” not in them saying “I’m about 60% sure the Dow will be at 14,000 next year.” I doubt any of those Dow prognosticators would have said they were 100% sure in their guess. And being off in an economic prediction most often means you’re WAY off. Those guys didn’t see a black swan… Read more »

namesarehardtopick
namesarehardtopick
10 years ago

Especially Roubini because people tend to listen to him for now. But with every market, there are bulls and bears regardless of what the market actually does. You’ve provided another reason, of many, why Benjamin Graham is right: focus only on the fundamentals, not the emotions of investors.

Money Beagle
Money Beagle
10 years ago

Love this post! Just shows that everybody should do their own research and do what they feel is right. it’s alright to get advice but to have blind faith in someone else is foolish, especially when it comes to something important like your wealth.

Slackerjo
Slackerjo
10 years ago

When the blind leadeth the blind, get out of the way!

Sandy E.
Sandy E.
10 years ago

I enjoyed the “memorable predictions” which made me recall one of my own that really is too funny not to share: When I was newly married, there was a commercial about t.v.’s coming out with remote controls. Remote controls? How ridiculous was that? — or so I thought. I turned to my husband and distinctively remember saying: “Now who in the hell is gonna be so lazy that they can’t get up off the couch and walk 5 steps to the t.v. and change the channel? Remotel controls for a t.v.? That’s the most ridiculous thing I’ve heard about in… Read more »

Finances 2010
Finances 2010
10 years ago

Yogi Berra once said, “It’s tough to make predictions, especially about the future.”

Great quote right there. It can be applied to finances among other things.

Sara
Sara
10 years ago

Sandy- Thanks for sharing your “prediction”… too funny!

I also enjoyed the “memorable predictions”. I am just beginning to proactively research and attempt to learn about investments, etc. and it is easy to get caught up in every “expert’s” opinion. The article definitely reminds me that nobody knows everything and certainly nobody can guarantee what the future holds.

Rob Bennett
Rob Bennett
10 years ago

“The assets that Roubini warned against posted huge double-digit returns in 2009. ” The Roubini prediction has been proven wrong only in the eyes of those who are strictly short-term investors. Stocks were priced to provide a not-good long-term return at the time Roubini made the prediction. The fact that stocks went up for a year does not retroactively make them a good choice. In the event you take your money out today, stocks were a good choice. But if you are a long-term investor, you still have to experience the big price drop coming up ahead because of the… Read more »

jeffeb3
jeffeb3
10 years ago

@Tom (#2) Every strategy will win eventually, but only one can be the winner at any given time. The question is, “How do you find the strategy that will be winning when you want to leave the game?” That question leads to “What strategy will be near winning most of the time?” That question will lead you to investments that have diversification, risk management, and steady returns.

It’s really not rocket science. “New” strategies come and go, but redistribution, and diversification are consistent near winners, with limited risk in the long term. No Gimmick Needed!

rubin pham
rubin pham
10 years ago

in 1999, alan greenspan was perceived as some kind of semi-god.
turn out he was dead wrong on a lot of things, including the subprime mess we are in today.
so remember this when you invest, NO ONE CAN TELL THE FUTURE.

Sam
Sam
10 years ago

All true. So the question is who should you listen to, how can you get good advice or do we all need to spend all of our waking hours researching stocks and bonds? One of my big complaints with each individual being responsible for their 401k investments is that it is highly inefficent for us all to be managing money, especially when its not our area of expertise. Wouldn’t it make more sense to hand large sums of 401k money over to a manager, like a pension manager, and let the experts to what they are best at. You could… Read more »

DonB
DonB
10 years ago

@Sam: “One of my big complaints with each individual being responsible for their 401k investments is that it is highly inefficent for us all to be managing money, especially when its not our area of expertise.” The way I read the article is this: beating the market is nobody’s expertise. When you say let the experts do what they are best at, what exactly are you thinking they are good at? If what you think they are good at is interviewing you and getting a real sense of your risk tolerance (i.e. better than you would know for yourself) and… Read more »

Money Reasons
Money Reasons
10 years ago

The more time I spend in the markets, the more I realize that the old tenets still hold true…

1.) Rebalance periodically (at least once a year)
2.) Use dollar cost averaging
3.) Be greedy when other are fearful, and fearful when others are greedy (paraphrasing Warren Buffett here…)
4.) Diversify!!!
5.) Believe in yourself, nobody cares as much about your money as you do!

I’d also like to add, watch those high beta stocks(“high beta” is analogous for “high risk” stocks, you got to love wallstreetese…) 🙂

Shahar
Shahar
10 years ago

You still “have to make some guesses about what the future will bring” even if you “put all your money under your mattress.” The dollar, or whatever your currency is, also fluctuates in value. Next year, that loaf of bread – or rent payment – will not be the same. There are also other risks with staying in cash, whether literally under the mattress (fire, theft) or in a bank account. You really cannot get away from some form of prognostication or guessing. Good luck! (you’d probably need it, in addition to all of the sophisticated rational components that might… Read more »

beforewisdom
beforewisdom
10 years ago

It improves my mental health to read that people with predictions like Dr. Doom’s have been wrong.

Monevator
Monevator
10 years ago

I love your quotes. They’re great! 🙂 I don’t relish someone finding things I’ve written on Monevator in years to come that are dumb. Sure to happen. A good example of exactly what you’re talking about right now is with emerging markets. Every expert “knows” emerging markets are the place to be for the next few years, because they have grown throughout the crisis that has struck the West. Yet when you look at the data, there’s no correlation between recent GDP growth and future stock performance. (If anything, markets are better at predicting GDP growth than the other way… Read more »

Mark Foo | 77 Success Traits
Mark Foo | 77 Success Traits
10 years ago

Hi Robert,

Thank you for this excellent piece on why it’s smart NOT to rely on “experts” when it comes to investing. Nowadays, I read “experts'” analysis and predictions as a form of amusement more than pieces of advice. Sometimes, I skip them altogether.

Cheers~

Mark

Carmen
Carmen
10 years ago

Even if you put all your money under your mattress, you have to make some prediction about what the future will bring…

Scott
Scott
10 years ago

An expert is one who can speak knowledgeably about things he does not understand.

chacha1
chacha1
10 years ago

The one thing you can predict that will ALWAYS be true is:

If you live below your means and save, you will always have greater financial security than those who spend every cent they earn.

Steve S
Steve S
10 years ago

I find it a bit odd somebody from the Motley Fool is writing this article. Every email I saw from them before I canceled was about how I had to get in some hot stock (with a 100000% return!!!!!!11!) before it was too late.

David/Yourfinances101
David/Yourfinances101
10 years ago

Diversify, and educate yourself.

If you have the time, you can read up enough on investing and so on to make your own fairly intelligent choices. My mother, who has no formal financial training, gives me advice just as good as the Wall St. experts.

Tim S.
Tim S.
10 years ago

Good post. I know I’ve tried timing the market in the past and failed. Short-term predictions aren’t worth bothering with, but long-term predictions are. I’m considering changing my asset allocation (which doesn’t take into account my real estate investments) to 100% equities based on a prediction that over the next 30-40 years most stock index funds will outperform the best bond fund. I have always held a certain percentage in bonds in the name of “diversification”, but I wonder if this is a good idea. If we can predict with certainty that in the long-term stocks are better, then why… Read more »

CERB
CERB
10 years ago

My favorite personal quote was back in 1973, when my father told my college-aged sister, “You’re a fool to get a degree in something like computers, you should major in something practical that will help you get a job someday.” Even with the best of intentions, advice can be wrong. If I’m the one who’s going to have to live with the consequences, then I better do my own research and make my own decisions.

Dwight Kellams
Dwight Kellams
10 years ago

My favorite saying is: “Hindsight is always 20/20, especially when it comes to investing”. I have never sold during a down market. However it was much more difficult to tolerate the last couple of years versus 2000-2002 and prior downturns. I know that for most people tolerance for market volatility decreases with age. I turned age 50 a couple of months prior to the market bottom in March 2009. The fact that I am getting older may be the reason for my increased sensitivity and something that I must be more conscious of in future down markets.

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