2021 Market Predictions Are Trash

Posted: January 5, 2021

Category: Behavioral Finance

Crumpled up paper in and near a trash can

A colleague recently shared with me a story about a January tradition of the Kiwanis Club of Cape Fear in Fayetteville, NC, which holds a contest to see who can best predict where the Dow Jones Industrial Average will end the year.

She described how some members have a thoughtful internal debate while others jot down numbers seemingly at random. By the following year, pretty much no one remembers the guess they submitted, and rarely is the winner someone within financial services. A chiropractor won in 2020, a national defense analyst the year before.

What made the contest sound so fun to me is that the guesses and winners seem so haphazard and unexpected. Why? Because most predictions are garbage.

In fact, in 2020, our friends at the financial services consulting firm Naissance Partners analyzed 345 predictions for 2020 from 22 asset managers. They found that 80% were vague predictions that offered some direction — like, “The dollar will weaken!” — but no real precision.

Naissance also noted there’s considerable “herding” around ideas and predictions. In other words, if you hear it once, you don’t need to look far to find it here, there, and everywhere. (Not-such-a-spoiler alert for those links: As early as late September, reps from Jeffries, Goldman, and JPMorgan were all making similar calls about where the S&P 500 will land by the end of 2021.)

Here’s what we keep asking amongst ourselves at Blueprint Investment Partners: How in the heck are all these similar and vague (or maybe it’s “similarly vague?”) predictions supposed to help financial advisors better manage the financial futures of their clients?

Simply, they don’t.

That’s why we say, “fahgettaboudit!” to predictions. Instead, here are some principles we think should guide advisors in 2021 — and every year, for that matter.

What Really Moves Markets Are the Cognitive and Emotional Biases of Investors Day by Day

There’s a plethora of behavioral finance research on the cognitive biases that leads human beings to be greatly influenced by the behavior of others. Specifically, herding is the idea that people feel most comfortable when they follow the crowd, because they generally assume the consensus view is correct and fear making mistakes or missing opportunities.

While not conclusive and certainly not a clear causal relationship, there is strong correlation between herd behavior and market peaks (and troughs). Look up Bitcoin or any popular ETF today and you’ll see the effects of human behavior on the price of these instruments, as the crowd has entered the markets with ever-increasing fervor.

In addition to the impact this behavior has on the markets, it often negatively affects individuals’ portfolios. Investors notoriously underperform the market by aggressively buying at highs and selling at lows. As we have noted before, DALBAR’s Quantitative Analysis of Investor Behavior has measured the effects of investors’ decisions since 1994; the results consistently show that imprudent behaviors can cause investors to underperform their investment vehicles and/or the market.

Investing is About Staying with the Journey, So You Can Arrive at the Desired Destination

In our view — and probably yours as well — the best way for investors to reach their long-term financial goals is by having a sound plan and sticking to it. This approach is so effective because it keeps emotions and biases in check.

To develop the roadmap and stay committed to it, investors need:

  • Focus on compounding, not necessarily returns, because the strategy with the highest return in a given period does not always equate to the one that maximizes compounding over the long-term
  • Investment vehicles with a time-tested process they can understand and can rationally buy into
  • A partnership with a financial coach, like yourself, who will walk with them each step of the way

In short, your clients’ confidence in the plan you create and the investment vehicles you select empowers them to ride through emotionally charged environments. They can become more comfortable with observing the herd from afar, because they trust their portfolio is designed to:

  • Improve the odds of making the end-goal return
  • Significantly reduce or eliminate outcomes that would cause financial distress
  • Minimize or eliminate the amount of time the investment is “off track” from reaching the goal, reducing the need for lifestyle changes

After all, what matters most has nothing to do with crowd-following. It’s preserving compounding during market declines to create wealth when clients need it, rather than at some random point during the contribution phase.

Strategy Matters. Predictions Do Not.

The problem with investment predictions is not that they exist, but that they continue to be entertained despite the dismal results.

So, if predictions are ultimately useless and outcomes are what matter, where should financial advisors place their focus? In our view, they should emphasize strategy, process, and all the inputs that get a client to the desired result — because these are what provide the best odds of success, and a better journey along the way.

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