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Use This Simple Trick To Evaluate Financial Predictions

by Chris Poindexter

It would be pretty easy to write the script for a hedge fund manager or brokerage analyst going on one of the cable business shows. First, point to one of the many indicators that show the stock market is overvalued; there are several to pick from. Express concern over the forward risk but also point out that corporate profits exceeded expectations and the market managed to hang tough near record levels instead of losing ground. If you’re going on today, be sure and express concern over bond yields. Hand wringing about bond yields is so hot right now.

It’s all nonsense, of course. The truth is no one knows what’s going to happen in the markets and every day some modern financial soothsayer goes on TV predicting a market crash but never with any specificity. You don’t ever hear anyone on TV say that the market is going to crash next week; even the predictions for that small time frame can vary widely. It’s all just noise.

Let’s take another example that may be more familiar. Remember the rampant hyperinflation that was going to destroy the U.S. dollar because the U.S. Federal Reserve was pumping money into the economy in the wake of the great recession? It was a daily onslaught of dire predictions; the dollar was going to collapse, order would break down, savings would be wiped out and neighbors would be at each other’s throats over a few cans of soup. It’s time to admit those predictions were dead flat wrong. The inflation rate stayed pretty steady at a tepid 1%-2% and the hyperinflation prognosticators gradually moved on to other imminent disasters, which were also wrong. Inflation stayed in check, corporate profits set records, the stock market went on the third longest bull run in history and Costco stayed open. As if to mock the hyperinflation gloom and doomers the U.S. dollar ended up becoming the strongest currency in the global basket, so much so that it was causing problems because it was too strong!

The reason inflation stayed relatively tame is that while the U.S. Federal Reserve was pumping massive amounts of cash into the economy, U.S. consumers and companies were taking massive amounts of cash out of the economy by deleveraging in the wake of the financial disaster. In very simple terms in a debt economy borrowing creates money and paying off debt destroys it. The prophets of doom failed to account for the effect of consumers and companies paying down debt on the money supply.

To borrow an old joke how do you tell when a financial analyst’s predictions are wrong? When their lips are moving. No one can predict any entity as large and complex as world markets with specificity. There are investors who guess right, just like there are people who guess right at the casino. Yet no one seems to remember the parade of inaccurate predictions. No one seems to catch on that, without an actual time frame attached to them, financial predictions are useless. I can tell you the market is going to crash. I can do even better; I can guarantee the market is going to crash, I just can’t tell you when. Without a date or a time frame, that prediction is useless.

That consistent wrongness of financial predictions is the very basis of disciplined investing. The way it works is you map out the allocation of your investments between stocks, bonds, cash and hard assets, like gold and silver, in fixed percentages. Then, twice a year, you sell the winners and buy some more of the losers to return those fixed percentages to balance. That process is called rebalancing and it forces you to lock in gains and put money into sectors with the best likelihood of future growth. Rebalancing is what “buy low, sell high” looks like in motion.

Just because disciplined investing is simple doesn’t mean it’s easy. What makes it hard is that daily parade of gloom and doom. Your brain starts screaming at you to join the panicked herd and run. Fear says to sell your stocks and buy a bugout trailer. Fear keeps your cash in savings when it could be out earning dividends invested in companies with solid balance sheets. Fear is the great killer of returns and always the prime suspect in missed opportunities.

The answer to the question of how you tell when predictions are meaningless is when they don’t have a date attached to them.

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