Saturday, September 26, 2015

Are You a Market Forecaster and/or Market Timer?

This is what I often hear on Main Street and by so called experts about the economy, market, stocks and bonds, etc.

1) The market has gone up, so I like stocks;
2) the market is going down/up based on my opinion which is based on my favorite expert's opinion. He hates/loves stocks, so I hate/love stocks;
3) I can't admit that I don't understand stocks so I avoid stocks. To feel comfortable with myself, I look for forecasters and experts who support this view and advocate avoiding the stock market;
3) the Fed has manipulated the stock market and stocks will eventually crash, so I continue to avoid stocks;
4) the economy is bad, sluggish and risky so I will wait for things to get better and then buy stocks;
5)  the economy is bad and will stay bad forever so I only own treasuries at 2% yields. This is what my bond guru and/or favorite economist is saying, so I believe it. I have been in bonds and out of stocks since 2008;
6) because of Central Bank actions in recent years, I strongly believe inflation is going to take off so I am betting on this in the bond market by buying TIPS and avoiding stocks.
7) I only buy stocks when the side I am on wins the White House after the country has gotten back on track and regained its sanity after opposition is run out of office;
8) the U.S. is in a state of decline as it is not what it used to be in general, so I am avoiding stocks;
9) I am forecasting that the economy is going into decline so I continue to avoid stocks;
10) I believe the economy in the U.S, is going to significantly expand so I am going to buy stocks now or in the future;
11) China is in decline so I am avoiding stocks and commodities;
12) the economy has been sluggish, risky or in decline for several years so I have avoided stocks for several years;
13) I have missed the stock market move since 2008/2009 but do not want to miss anymore of the gains so I am getting into the market;
14) my favorite market guru has turned bullish so I am now bullish and will jump in the market;
15) I strongly believe the stock market is going up so I want to buy stocks.

Do one or more of these statements sound familiar? If so, then you may very well be a market forecaster and/or timer. The sobering truth is that if your investment decision making is based on forecasting and/or market timing you have no chance of beating the market over time. It is also true that if you consume market and economic forecasts and timing views, follow expert predictions and believe in forecasts you will be flooded with largely useless information that you do not know is useless and waste your time doing so.

In the book "Investment Fables, Exposing the Myths of "Can't Miss" Investment Strategies," 2004,  Aswath Damodaran (the highly regarded professor at NYU's Stern School of Business) said the following about market timing:

"If you can time the markets you can make immense returns, and it is this potential payoff that makes all investors into market timers. Some investors explicitly try to time markets by using technical and fundamental indicators, whereas others integrate their market views into their asset allocation decision, shifting more money into stocks when they are bullish stocks. Looking at the evidence, though, there are no market-timing indicators that deliver consistent and solid returns. In fact, there is little proof that the experts at market timing-market strategists, mutual funds and investment newsletters, for example-succeed at the endeavor.

Notwithstanding this depressing evidence, investors will continue to time the markets. If you choose to do so, you should pick a market-timing strategy that is consistent with your time horizon, evaluate the evidence on its success carefully, and try to combine it with an effective stock-selection strategy."

There has been a large amount of material written about forecasting. For a recent quality read on forecasting and the futility of predicting economies and stock markets see, "The Signal and the Noise: Why Most Predictions Fail - but some don't," 2012 by Nate Silver. I also recommend Philip Tetlock of the University of Pennsylvania who is an expert on the limitations of forecasting. Great investors such as Warren Buffet and Peter Lynch are known for spending little if any time on economic forecasts and market predictions. They are also not known as market timers.

For what it is worth, my real world experience lines up with the view of Damodaran, Silver and Tetlock as well as Buffet and Lynch.

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