On: June 14, 2015 In: Blog, Columns, Feature, Most Popular Comments: 0

Written By Brad McFadden

Don’t Forecast the Future but Rather Go With the Flow! Is it really helpful to make predictions about where financial markets will be in the future? I don’t think so. We (humans) are terrified of the unknown. Prediction is our way of giving us some sense of security about the future. But here is the problem; our “track record” of predicting the future is shocking to say the least!

When you really think about it – by definition we can never be any good at predicting the future! If we knew what the future was going to be, our actions today would prevent the future event from occurring. Nicolas Cage best summed it up with one of his lines from the 2007 movie NEXT:

“Here’s the thing about the future, every time you look at it, it changes because you looked at it, and that changes everything else” Predictions and thoughts about the future- look at how bad we are at it! You would have never believed it if:

  •  In the late-1980s, you were told that in the next 20 years the Soviet Union would completely implode, Japan’s economy would essentially be in a recession for the next 2 decades, and that China’s economy would become bigger than Japan’s.
  •  In 2007, you were told that peak oil was a “fallacy” and that within 7 years the U.S. would be exporting oil and producing more oil than Saudi Arabia.
  •  In 2004, someone told you a website run by a 19-year-old college dropout on which you look at pictures of your friends would be worth 4 times as much as Hewlett & Packard 10 years later.
  •  In late 1945, someone told you that after two atomic bombs were dropped on Japan no country would use a nuclear weapon in war for at least seven decades
  •  In 2009, someone told you the Federal Reserve would print $3 trillion over the next five years and result in hysteria with lower levels of inflation than before the GFC itself!
  • In 2002, someone told you Enron would be bankrupt within the year and that within 10 years Apple would be the biggest company in the world. In 2002 it appeared the opposite would occur.
  • Three years ago, someone told you that Uber, an app connecting you with a stranger in a Hyundai, would be worth almost as much as Ford!
  • 20 years ago, someone told you that you’d be able to make a phone call on a watch that looks much like the Casio calculator watch you were wearing at the time, and monitor your heart, pay your bills, send emails, surf the internet and pay for a cup of coffee
  • In 1968 (when Martin Luther King was assassinated), or 1980, or 1990, someone had told you that by 2010 the U.S. would have a black President.
  • In 1997, someone told you that the biggest threat to Microsoft were two geeky students working out of a garage on a search engine with a weird name.
  • If just 2 years ago, someone told you investors would be buying government debt in at least a dozen European nations with negative interest rates and that many Europeans would be paying interest on their savings at banks!
  • In 2008, someone had told you the S&P 500 would fall by about 50% within the year.
  • In early 2009, that the S&P would advance by about 150% within 5 years.
  • In 2002, someone had told you that the price of gold would increase 6 fold 10 years later!
  •  At the height of the Euro Debt “crisis” in September/October 2011 the S&P would essentially double 3 years later.

But all of this did happen, and yes it took everyone by surprise, all except for a few “freaks”! Perhaps one now starts to appreciate the folly of forecasting. As counterintuitive as it may seem, when it comes to investing or trading (however you term it), forecasting is outright dangerous. This is because when a forecast is made, there is an overwhelming tendency to see that forecast, as the right outcome. So naturally we will tend to try and defend this forecast, as being wrong is synonymous with bad or foolish.

Often I find people who, for whatever reason, come up with a bearish outlook/forecast for a given market and continue to hold that view long after it has become apparent to even a 5 year old that the market “looks like it wants to go higher”! The reverse is also true. Well what do we do if we don’t have a forecast of where the market is going? I think traders would be far better served with a bias in “following where the market looks like it wants to go” rather than hanging onto some preconceived idea of “where we think the market should go”

Yes we would be far better served at following macro trends rather than making macro forecasts. It sounds rather simplistic (granted identifying a trend isn’t as straight forward as it looks), but remember back in March 2012, would we have been better served by trading the “upward trend” of the market or listening to the majority of pundits who were forecasting the start of another GFC (remember the crowds’ obsession with “Double-Dip”)? Or for those who weren’t forecasting another crash, the majority were suggesting that “gains over the coming months will be rather subdued” – the S&P is up some 100% from early 2012 levels: