Economic forecasts are not an investment roadmap

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It is that time of year again where economic forecasters put together their predictions for the upcoming year. When I first got into the investment advisory services business in 2003, I loved reading these reports as I learned about the methodology and mathematical forecasting models used by some of the brightest minds in economics. I always tried to read at least five reports to obtain a variety of opinions to see if there were some common themes and correlations.

Unfortunately, it was quite the opposite. I often found myself more confused as the standard deviation of numbers and percentages were all over the map.

Take last year, for example. The 2020 CNBC Market Strategist Survey engaged with some of the top Wall Street firms. One of the questions on the survey asked for a prediction on a year-end S&P 500 target. The answers varied from minus-6% to plus-12.8%. If an investor were to only read the most negative forecast and invest defensively or put their money in cash, they would have missed out on a double-digit return in the S&P 500.

Most economists did not predict the four most recent recessions (1990, 2001, 2007/2008 and 2020). In November 2007, economists on the Philadelphia Federal Reserve’s Survey of Professional Forecasters predicted 2.4% growth in 2008 with a mere 3% chance of a recession. We all know what happened in 2008 as we experienced the worst recession since the Great Depression in 1929.

How could so many “experts” miss this? Jan Hatzius, chief economist of Goldman Sachs, said, “Nobody has a clue. It is hugely difficult to forecast the business cycle. Understanding an organism as complex as the economy is very hard.” The U.S. government keeps track of 45,000 economic indicators each year. That is nothing compared to the 4 million private data providers that produce their work.

A few of my favorite quotes on this topic are:

  • “The function of economic forecasting is to make astrology look respectable.” – John Kenneth Galbraith
  • “The biggest economic risk is what no one is talking about, because if no one’s talking about it, no one’s prepared for it, and if no one’s prepared for it, its damage will be amplified when it arrives.” – Morgan Housel

What happened in 2020 that nobody prepared for? Perhaps the greatest global pandemic since the 1918 Spanish flu! I keyword-searched each of the top 15 economic forecasts published in preparation for the 2020 outlook. Would you like to make a guess of how many times the words “coronavirus,” “COVID-19,” or “flu pandemic” were published? The answer is zero.

So how should investors deal with this knowing that this world is full of uncertainty, complexity and millions of moving parts? Simply put, do not let an economic forecast change your long-term goals and investment roadmap no matter how optimistic or pessimistic it may be.

Ryan Diepstra is a principal and chief operating officer at Centennial Securities. He can be reached at ryan@centennialsec.com.

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