Noise. That’s all it is. Many financial pundits and Wall Street experts have strong opinions about what will happen next in the financial markets. Some of these individuals are quite well educated and have ample incentives to be right and to provide good counsel. Although some will attract the spotlight because they’re right for a period of time, none get it right consistently over the long-term. Ok – I’ll acknowledge that a very few market forecasters might – and I say might – be able to correctly and consistently predict the market direction, but their insights are unavailable to you or me!
There are plenty of flakes who wantonly publish gloom and doom forecasts or premonitions of black swan events which will soon roil the global financial markets. Likewise, many soothsayers will tease you with stock picks which are poised to appreciate a thousandfold! Let’s ignore these fringe participants. They have no credibility anyway. Instead, let’s focus on legitimate professionals at respectable and well known Wall Street firms who have simply gotten it wrong.
The history of market forecast blunders offers far too many examples for us to cite. But some of the higher-profile ones include John Meriwether at Long-Term Capital Management, a multi-billion dollar hedge fund that imploded in 1994, and Meredith Whitney’s miss after her prediction during a 60 Minutes interview in 2010 that municipal bond defaults would total hundreds of billions within the next 12 months. The defaults never materialized, but her prediction negatively impacted the muni bond market, at least momentarily, because of her credibility of correctly predicting the banking and credit crisis of 2008/2009. Here, Ms. Whitney leveraged her fame (cover of Fortune Magazine in 2008) from her correct call on banks to gain a following and an audience on 60 Minutes where she made an incorrect prediction. As mentioned above, consistency in market forecasts is quite rare.
Another much more recent example of wrong and potentially costly advice from Wall Street involves the terrible call by the Royal Bank of Scotland, often referred to as just RBS, who in January of 2016 advised their clients to sell everything except high-quality bonds because, “This is about return of capital, not return on capital. In a crowded hall, exit doors are small.” The headline in a January 2016 article in the Guardian read, “Sell everything ahead of stock market crash, say RBS economists. Royal Bank of Scotland warns of ‘cataclysmic’ year with slumps in shares and oil and advises clients to shift to bonds.” RBS had plenty on the line when they made this call. Before publishing, they had to consider their reputation, client money, shareholders, constituents, et al. RBS had plenty at risk, and they were WRONG! In 2016, the S&P 500 was up 12% while the domestic large-cap value asset class was up 24.4%; the domestic small-cap asset class was up 26.8%; and the domestic small-cap value asset class was up 37.2%! Since January of 2016, the Dow Jones Industrial Average is up 78%! If you had listened to and acted upon the advice of RBS four years ago, you would have missed a huge period of market appreciation! That’s some unpleasant noise! By the way, this style of investment management whereby one jumps in and out of the market attempting to successfully enjoy the periods of market appreciation while avoiding the periods of market depreciation is called active management.
So to whom should you, as an investor, listen? Whose advice is worth following? As I espouse frequently, consume any and all information from the financial services industry with a healthy dose of skepticism, including that which you get from me! But let’s consider that evidence-based research from unbiased sources, namely academia, might be better than Wall Street’s advice. Maybe professionals whose peers review their research might be more objective. Perhaps they’re a better source for information about how to have a favorable real-world, investing outcome.
If you do your own due diligence, you’ll concur that applying Evidence-based investing characterized by owning low-cost, broadly diversified index-tracking funds far outweighs active investing (which is, by necessity, expensive) as the most likely path to favorable investing outcomes. As a matter of fact, the weight of the Evidence-based investing dwarfs the weight of active investing. The evidence of all the unbiased research (excludes Wall Street’s biased research) clearly shows that investors, amateurs and professionals alike, who try to beat the market averages by actively trading their portfolios end up underperforming said averages! The evidence shows that investors who employ a simple, low-cost, broadly diversified approach to investing void of expensive trading and missed opportunities enjoy better results!
One of the highest-profile and most successful investors in the world, Warren Buffett, agrees! In fact, Mr. Buffett strongly believes investors should think long-term under the logic that a long-term mindset will avoid the temptation for investors to constantly trade or tweak their investment portfolios. Warren Buffett is also a proponent of ignoring market forecasts! “The only value of stock forecasters is to make fortune tellers look good.” Additionally, Mr. Buffett believes in keeping it simple. Buffett lives by a few simple rules, and he urges investors to do the same. Successful investing, he says, is far more simple than many investment professionals make it look. “There seems to be some perverse human characteristic that likes to make easy things difficult.”
To beautifully sum up the crux of advice Mr. Buffett offers individual investors, he has consistently said over many years that investors are better off using low-cost index funds. “Both large and small investors should stick with low-cost index funds.” He continues, “By periodically investing in an index fund, for example, the know-nothing investor can actually outperform most investment professionals. Paradoxically, when ‘dumb’ money acknowledges its limitations, it ceases to be dumb.”