Stone Age Forecasting

Do you know Abbey Joseph Cohen? How about Richard Bernstein? If you're an enthusiastic investor who follows the popular press, you probably do. They're both well known professional market forecasters with thousands of devoted readers. Professionals as a group have access to the most information. So their forecasts must be right, right? Turns out they couldn't be more wrong, year in and year out. That may surprise you, but if professional forecasters are a proxy for all widely known information, by definition their consensus views are discounted into current pricing.

So why are investors continually mesmerized by these pundits' forecasts? The answer goes back to prehistoric times. Around this time, our Stone Age brains were hard-wired in their thinking and belief systems, and they still function today largely as they have since the beginning of time. We are hard-wired to seek patterns and distrust chaos and disorder. And we are so uncomfortable in the face of uncertainty that we are willing to lend an ear to anyone who might alleviate us from such aversions—even if we can rationally prove them dead wrong almost every time, like professional forecasters. We desperately want to believe them. To not do so would make us uncomfortable.

But you can still use professional forecasts—just not in the way you originally thought. Quite simply, whatever the body of professional market forecasters believes will happen, will not. We're not advocating contrarianism. Too often people confuse going against the consensus as contrarian. Contrarianism means you make the exact opposite bet as the consensus. So, if the consensus calls for a 10% positive return this year, you'd bet the market declines by 10%. But that's not how it works. If the consensus calls for a 10% return, all we know is that a 10% return is very unlikely. The market could be up significantly more than 10%, maybe a little less or any other scenario other than up 10%.

Where does this leave us for 2007? The consensus among professional forecasters is for a high single-digit positive return. Knowing that is least likely to happen, we can look at other major drivers to see what they're telling us about the future direction of the market. Given the strong global economic and robust fundamental trends we've written about extensively in recent months, we think the forecasters are too low. If sentiment improves, we believe returns could be upwards of 40%. Now there's a non-consensus point of view for you.