Ignore Economic & Share Market Predictions

“The only function of economic forecasting is to make astrology look respectable.”
- John Kenneth Galbraith, famed Economist

“The growth of the internet will slow drastically, as the flaw in Metcalfe’s Law becomes apparent; most people have nothing to say to each other! By 2005 or so, it will become clear that the internet’s impact on the economy has been no greater than the fax machine’s.”
- Paul Krugman, a winner of the Nobel Prize in Economics, wrote in 1998

The IMF cannot predict a recession* They were wrong 26 times out of 27 years, from 1991 to 2018. Their success rate is 4% in 27 years — a waste of time. A failure rate of 96%.

In the last 24 years of UK quarterly GDP data, almost every final figure has been different from the initial release, sometimes by one full percentage point.* This demonstrates GDP forecasting is a waste of time.

Source

Here’s the average Chief Market Strategist’s forecast versus actual S&P 500 performance since 2000 to 2014:

Source

From 2000 to 2014, in 14 years, the average Chief Market Strategist predicted the market correctly once. That’s a 7% success rate, 93% failure rate.

A recent finding in an International Monetary Fund research paper: During a 22-year period (1992 to 2014), private-sector economists managed to forecast only five recessions out of 153 economic contractions across 63 countries. 97% failure rate over 22 years. Read more here.

“I really think that a lot of modern finance theory can only be described as disgusting.” - Charlie Munger, Vice Chairman of Berkshire Hathaway

The Berkshire Hathaway Track Record — Warren Buffett & Charlie Munger

Warren Buffett & Charlie Munger have created the best investment track record in the history of civilization, via Berkshire Hathaway. For 53 years, they returned 18.7% p.a while the S&P 500 (the market) returned 9.7% p.a (Source).

How did they do it?

• “Diversification is a hedge against ignorance” — Warren Buffett
• They do not spend time on what the market is doing, or any macroeconomic forecasts
• They make very few decisions a year. When they do invest, they go big (they were influenced from Philip Fisher, the father of growth stock investing).

They understand what businesses will do very well over time. Rule: If the company does well over time, the market follows.

Buffett & Munger on ignoring the sharemarket

The Warren Buffett rule for open-cry auctions: don’t go. Charlie Munger explains why:

An excerpt from Charlie Munger’s famous and must-listen “The Psychology of Human Misjudgement” speech (find a transcript here, my favorite bias is ‘incentive-caused bias’):

“Finally, the open-outcry auction. Well, the open-outcry auction is just made to turn the brain into mush: you’ve got social proof, the other guy is bidding, you get reciprocation tendency, you get deprival super-reaction syndrome, the thing is going away… I mean it just absolutely is designed to manipulate people into idiotic behavior.

Then there is the Warren Buffett rule for open-outcry auctions: don’t go.”

To add to the psychology of human misjudgment, here are 3 cognitive biases that stop us from making better decisions.

In this speech, Robert Cialdini’s book “Influence” is mentioned. Cialdini is a well respected psychologist and explains the 6 universal principles of persuasion: Consistency, Liking, Authority, Social Proof, Scarcity, and Reciprocity. A book summary is here.

Diversification is does not make sense if you can identify a successful business

“There is less risk in owning three easy-to-identify, wonderful businesses than there is in owning 50 well-known, big businesses…. If you find three wonderful businesses in your life, you’ll get very rich.” — Warren Buffett (1996)

Peter Lynch ran Fidelity Investments from 1977 to 1990 and got returns of 29.2% per year. His advice? Predicting the market and economy is a waste of time. There is a great podcast here.

Modern human beings (homo sapiens) have been around 12,000 years. Human nature has not changed in 12,000 years. Benjamin Graham, Warren Buffett’s mentor, understood this when he said “in the short term the stock market is a voting machine, in the long term it is a weighing (of value) machine”. Fear and greed explain the volatility of business cycles, it will not change due to human nature.

Australian Shares outperform Australian Residential Property over 90 years

Shares outperformed residential property returns from 1926 to 2016, via research by Shane Oliver from AMP Capital.

Over 90 years, shares returned 11.5% per annum and property returned 11.1% per annum.

Source

These numbers are similar to another article, which in the same 90 year period states annual returns of 10.2%.

Focus on the business facts. If the business does well, the market follows. Doing well includes future cash flows and a strong competitive position.

Long-term investors that do this beat the market over time. Here is a list of some of them.

Here are some examples of bad calls:

Amazon.bomb 1999

Tesla death watch 2008 (there’s too many to mention)

Bitcoin has died 360 times

Google stock will be highly disappointing 2004

Carl Icahn backed Blockbuster (avoiding Netflix) 2004

A buy rating on Enron in 2001

This source describes 2 bad calls.
1. Fannie Mae: Subprime mortgages are “Riskless” in 2004.
2. Steve Ballmer (Microsoft): “There’s no chance that the iPhone is going to get any significant market share. No chance.”

The truth in no online database will replace your daily newspaper (1995)

A great interview of 2 investment legends

Sir John Templeton got annual returns of 15% over 38 years.

Peter Lynch got annual returns of 29.2% over 13 years, then retired.

Here is a great interview of them discussing what they have learned. They focus on the assets they own and ignore economic & market forecasts.

Vanguard Index Australian Shares Fund & market returns over long periods

The Vanguard Index Australian Shares Fund (which invests in the top 300 ASX companies ~ 300 companies) from 1997 returned 8.45% per year. For 22 years, that low cost index fund returned 8.45% per year.

Management fees:

- First $50,000: 0.75% p.a.

- Next $50,000: 0.50% p.a.

- Balance over $100,000:: 0.35% p.a.

- Buy & sell spread: 0.06%

To simplify the point, Share Markets generally return around 8%. As I previously stated, the S&P 500 returned 9.7% per year for 53 years.

A fund managers’ benchmark are these lower cost index funds, doing on average 8% per year over 20 to 50 years. The fund manager's job is to beat the index fund over time.

One could make the case for long-term property returns, like BrickX. However, the one important thing they forgot is that property is illiquid, meaning it can’t be sold in one day and cash is received 2 days later (this is known as ASX settlement T+2).

Historical S&P 500 Index Stock Market Returns*

Percent (%) Return

10 year per annum returns

1986: 18.5%

1987: 5.2%

1988: 16.8%

1989: 31.5%

1990: -3.1%

1991: 30.5%

1992: 7.6%

1993: 10.1%

1994: 1.3%

1995: 37.6%

1995 average annual returns over 10 years: 15.6%

1996: 23.1%

1997: 33.4%

1998: 28.6%

1999: 21%

2000: -9.1%

2001: -11.9%

2002: -22.1%

2003: 28.7%

2004: 10.9%

2005: 4.9%

2005 average annual returns over 10 years: 10.75%

2006: 15.8%

2007: 5.5%

2008: -37%

2009: 26.5%

2010: 15.1%

2011: 2.1%

2012: 16%

2013: 32.4%

2014: 13.7%

2015: 1.4%

2015 average annual returns over 10 years: 9.15%

2016: 11.9%

Source

Here is a diagram showing the reasons to sell over 100 years vs the market. More proof to ignore the market in the short term.

Here is a diagram showing the reasons to sell over 100 years vs the market.

Conclusion

The best investors significantly outperform the market over decades by ignoring economic and market forecasts.