Reading the tea leaves

Investors at the start of a new year are inclined to reflect on the 12 months gone and muse on what the coming year might bring. Aware of this appetite for speculation, the media tends to feed it with forecasts. Sure, media commentary and speculation about what happens next can be interesting and thought-provoking as a world citizen but that doesn’t necessarily mean you should act on them as an investor.

In January 2017, one media outlet said Wall Street strategists were more bearish on equities than they had been for any year since 2005. The consensus forecast for the S&P 500 was for a gain in 2017 of about 4%. Individual forecasts from the 16 analysts quoted by the publication ranged from as low as 1.3% to as high as 10.1%.[1]

So how did that turn out? Well, a year after those forecasts were published, the S&P500 was up by nearly 22% for the calendar year, the US market’s ninth consecutive year of gains and shaping up as its best year since 2013.

What went wrong with the forecasts? Well, you could certainly put together a convincing case for caution in early 2017. One analyst quoted by The New York Times back in January, said investors had more risk in their portfolios than at any time since 1999.[2]

Stock market valuations were historically high, the analyst observed, while interest rates were rising, a new administration in Washington posed multiple uncertainties, elections were looming in France, Germany and Japan, and North Korea was sabre-rattling.

In Australia, economists were equally cautious. In a survey published in December 2016, analysts cited as uncertainties for Australia the Trump administration’s policies, Chinese demand for commodities and the course of the local property market.[3]

The consensus was for flat to modest gains in the local share market, a slowly depreciating Australian dollar and steady local interest rates. The actual results here were mixed. The S&P/ASX 300 total return for the 12 months ending December 2017 was just under 12%, the Australian dollar was in fact higher over the year, while cash rates were unchanged at 1.5%.

But the best performers of the year have been emerging markets equities, which were about 27% higher for the calendar year. A pity then, if you had followed the gloomy forecasts of analysts quoted by one newspaper, which back in early 2017 said the MSCI emerging markets index had formed a feared “death-cross” pattern, signalling a bearish trend ahead.[4]

So, what about the 2018 outlook?

Now, of course, we are being treated to a fresh set of prognostications about what 2018 might hold for the world economy and markets, and many of these headlines are just as apocalyptic as those we have seen previously including looming geopolitical risks, the prospect of a collapse in commodity prices, rapidly rising interest rates (or falling – take your pick) and a meltdown in global credit markets.

There are a few ways of approaching these sorts of calls. The first, as we have seen, is that the forecasting record of media and market pundits is not a particularly good one. That’s in part because they not only have to predict future news, which is hard enough. But they also must anticipate how markets will react. That’s an even tougher ask.

A second point to keep in mind is that no forecast, however well-reasoned, can ever account for all the unexpected things that might happen. We can never eliminate uncertainty which is the trade-off we make as investors for potential increased returns.

A third observation is that prices change on new information. But what often moves prices the most are events the market didn’t expect at all. That’s why you sometimes see share prices rise on what is ostensibly bad economic news because the focus is on the fact that the data was not as bad as what was already priced in.

Key takeouts

The performance of markets in 2017 underscored once again the dangers of basing one’s investment strategy on the news cycle or of acting on opinions and forecasts of media and market gurus.

It also highlighted the importance of investors diversifying across different assets and different countries, with disciplined rebalancing within a plan designed by an adviser who can build robust, diversified strategies which are based on the long-term drivers of expected return.

This does not mean markets will continue their recent upward course. Prices can go down as well as up. The desired premiums are not there every day, every month or every year. And there is no evidence that anyone can reliably and predict a turning point. Ultimately what drives returns is how you allocate your capital across different assets, how much you invest over time and the power of compounding.

The ups and downs of markets are not within your control. But your own behaviour is. With an adviser focused on building a plan for you – based on your goals, risk appetite and circumstances – you are more likely to stick to a long term strategy and generate the long term returns that markets have historically provided. By doing so you are much better placed to get to where you want to go than by making investment decisions based solely on the news of the day.

Ultimately, what is needed is an investment portfolio that is designed for you and your goals that lets you sleep at night. Once that’s in place and you accept that the world will always be uncertain, you won’t have to waste your time reading the tea leaves.

[1] ‘Wall Street’s 2017 Forecast is the Most Bearish Annual Outlook in 12 years’, CNBC, 3 Jan 201

[2] ‘A Rising Market Now Confronts Heightened Risks’, NY Times, 13 Jan 2017

[2] ‘What Economists Predict for 2017’, Eureka Report, 21 Dec 2017

[4] ‘Key Indicators Suggest Emerging Markets are Heading Downwards’, The Economic Times, 16 Jan 2017


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