Should You Trust An Economist?

I forecast that the most interesting email in my inbox this month will have already been received. It was from the London Bullion Metals Association (LBMA) Tuesday, announcing their awards to analysts who most accurately predicted the average high and low metal prices for 2014.

A quick scan of the email revealed that Philip Klapwijk from Precious Metals Insights Limited forecast $1,369 for the average price of platinum, and the actual result was $1,385. Pretty darn close; congratulations to Klapwijk. The average analyst forecast for platinum was much more optimistic at $1,490.

Even more inspiring are Suki Cooper from Barclays and Rhona O’Connell from Thomson Reuters’ 2014 estimates of $19.00 for silver, only $0.08 off the mark.

But before we uncork the champagne for a few possibly very talented individuals, let’s also remind ourselves that every analyst had one thing in common: they all got it wrong.

Living On One Right Call

Everyone would like to believe that talent, knowledge and access to information will help us make the right decisions, as evidenced by the popularity of articles stating asset allocators’ views.

One of our most widely read articles last year was a Q&A with ABN Amro Bank’s chief economist Han de Jong, and there tends to be feverish consumption of other articles with well-known names like Roger Bootle (founder of Capital Economics, voted the top UK forecaster of 2014) and Marc “Dr. Doom” Faber.

They all correctly predicted something, like the financial crisis or the euro sovereign debt catastrophe, and this big one-time success is widely heralded as a sign that they are right, and they might always be right, so listen up.

But surely this argument has to go along the same lines as that of active fund managers—nobody can predict the future, yet we place unprecedented trust with a few industry celebrities, and more importantly, we make decisions, change our minds and place our capital based on these forecasts.

Forecast Warnings

Before I hand out my own awards for who got it terribly wrong, watch out for these three common features of economic forecasting:

• Jumping on the bandwagon has another, and much more acceptable, name: market consensus. It’s easy to say the same thing as everyone else. But normalising something doesn’t make it right. (And the market consensus for next year seems to be: invest in European and Japanese equities, short the euro, avoid fixed income and beware less market liquidity. Let’s see if that is the right call in 12 months’ time.)
• Ever noticed how vague economists are in their predictions? They are like politicians in that they generally dislike giving a straight answer. I take one example from a 2015 outlook, published this week, by a well-known asset manager: “Valuations are rich but not excessive. Credit risks are rising but not prohibitive.” You could call this sitting on the fence.
• Don’t take a forecast as gospel, until it has been revised. Whether it’s inflation, GDP growth or unemployment, numbers are revised across the board multiple times as circumstances change.

The gong has now rung for my own awards: “Industry Participants Who Got It Wrong, Even If They Got Other Stuff Right”. In no particular order:

1. Steen Jakobsen, chief economist at Saxo Bank, said France’s CAC 40 stock market index would fall more than 40 percent by the end of 2014 from its highs in mid-November 2013. The CAC did fall in 2014 during the market sell-off in October, but only by about 6 percent. Well, Jakobsen himself calls it his yearly “outrageous predictions”.
2. Nouriel Roubini predicted in January 2014 that emerging markets would grow at a 5 percent rate in 2014. According to data from S&P Dow Jones Indices, emerging markets are down more than 2 percent last year.
3. Marcus Grubb, managing director of investment at the World Gold Council, said in December 2013 that gold could surprise on the upside in 2014 as ETF redemptions would slow down. Gold then fell over 1.7 percent in price terms over the past 12 months to around $1212 per ounce.
4. Steve Ruffley, chief market strategist at InterTrader, among many other industry commentators, predicted the UK would see a raise in rates in 2014, which would inflict heavy casualties in the housing markets as a large number of people would be unable to sustain their debt levels.

The list continues.

I predict that a long term, broadly diversified portfolio allows the financial planner to zone out from the market noise, the ever evolving will they-won’t they scenarios from central banks, and spend more time focusing on their clients’ objectives.