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Tis the Season for Wall Street Forecasting Pt. V

"I am skeptical about stock market forecasting by anybody, and particularly by bankers." Benjamin Graham, famous investor

Historical evidence shows Wall Street makes predictions that miss their mark by almost 13% per year.

Think about that. Every year being wrong by an average of 13%.

If the market's long-term average is ~7% per year, that's the equivalent of saying, "We expect the market to achieve a return between -6% to 20% this year."

That’s not forecasting, that’s wild guessing.

Wall Street's futile record is during “normal” times. Add in the global pandemic, and Wall Street’s forecasting machine is more amusing than credible.

Look no further than the end of November. The market was humming along nicely. The day after Thanksgiving there were reports out of South Africa about the Omicron variant.

Black Friday is usually a calm and volume-light trading day. A huge sell-off ensued.

It's impossible to forecast randomness, but that doesn't stop them from trying. Here's what our slick-talking friends are saying for 2022...

As of 12/8/21, the S&P 500 was trading at 4,680. The below list shows the financial institution, analyst, and predicted year-end S&P 500 2022 price target.

Barclays - 4,800

DWS, David Bianco - 5,000

J.P. Morgan, Dubravko Lakos-Bujas - 5,050

Yardeni Research, Ed Yardeni - 5,200

Bank of America, Savita Subramanian - 4,600

Jeffries, Sean Darby - 5,000

BNP Paribas, Greg Boutle - 5,100

BMO, Brian Belski - 5,300

Goldman Sachs, David Kostin - 5,100

Wells Fargo - 5,100 - 5,300

Morgan Stanley, Michael Wilson - 4,400

RBC, Lori Calvasina - 5,050

UBS, Keith Parker - 4,850

Credit Suisse, Jonathan Golub - 5,000

Source: Yahoo! Finance

The most pessimistic forecast (Morgan Stanley) calls for a 2022 price return of -6% for the S&P 500.

The most optimistic forecast (BMO & Wells Fargo) calls for a 2022 price return of 13% for the S&P 500.

The simple average of the remaining forecasts is ~5,000, which equates to a ~7% price return for the S&P 500 in 2022. Wall Street is predicting that the S&P performs at its long-term average next year (which rarely happens).

In our experience, this is the equivalent of saying, "we don't really know what's going to happen, let's go with the long-term average return."

Based on their historical error rate of ~13 percentage points, a better guess would be: S&P returns will be between -6% & 20%.

How did Wall Street fare for 2021 predictions?

Not good.

Wall Street called for a 10% gain in 2021. As of this writing (12/8/21), they are off by ~14.5%. You can view "Tis the Season for Wall Street Forecasts Pt. IV" for a full recap.

You might think we're being harsh. These well-intentioned forecasts are just giving the people what they want.

Why do we give Wall Street such a hard time?

You would be surprised how many investors act on these ridiculous predictions.

Last month, we had a client send us the following email…

Morgan Stanley says we should sell all U.S. stocks and bonds. We should buy European and Japanese stocks instead. I would like to talk about this at our next meeting.

Let’s say they acted on the above advice…

A sizable portion of the client's investable assets were held in taxable accounts. Given the last 12 years of positive equity returns, selling would have triggered a massive tax bill.

The client's risk number mapped over to a Balanced investment objective, which includes 30-40% in bonds. Morgan Stanley was advocating a shift to a 100% equity portfolio.

Let's say instead of 100% equities, we copied the client's existing asset allocation, but substituted Japanese and European bonds. Global bond yields, especially in Japan and Europe, are even lower than U.S. bond yields.

The new Japan/Europe allocation would open up a Pandora's box of questions...

Is Japan and Europe a long-term allocation 10+ years?

3 months?

6 months?

What would trigger a reallocation to U.S. stocks and bonds?

What if Morgan Stanley was wrong? How much pain could you tolerate? What if U.S. markets raced higher (that's actually happened for more than a decade)?

You can protect yourself from they tyranny of irresponsible forecasts by ignoring them, thinking in probabilities, and accepting that financial markets will occasionally get weird.

From our Wall Street forecasting post last year...

According to the Capital Group, since 1949, a bear market (defined by a 20% drop) happens roughly once every six years. That means ~17% of the time things are going to get uncomfortable.

Dealing in round numbers, we might say to ourselves...

20% of the time I'm going to suffer some losses

5% of the time things are going to get really weird (2008, 2020)

75% of the time is where I can potentially earn a positive return

Pure Portfolios is proud to be forecast-free since 2016.

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