Something Wicked This Way Comes

As my firm’s Chief Investment Officer, it’s my role (among other things) to provide thought leadership for the organization and its representatives – to outline and explain best practices and approaches with respect to the markets and investing.  Most fundamentally, if metaphorically, my job means standing up and pointing in the right direction.

I have been thinking a lot lately about how to do that more effectively, and the issue was highlighted for me anew yesterday during the outstanding Big Picture Conference here in New York City, hosted by Barry Ritholtz and Josh Brown. As part of the conference, Josh hosted a panel of Chief Investment Strategists: Dan Greenhaus of BTIG, Art Hogan of Lazard and Jeff Kleintop of LPL. All three were intelligent, engaging and very well-informed. Dan’s bio says he “is charged with evaluating both domestic and global macro trends as well as formulating top down investment strategies for clients.” That’s consistent with the way the role is typically conceived. As he put it on the panel, his job is to tell his clients what’s going to happen next. Of course, strategists do what they do for a much wider audience than that, as all are providing opinions regularly across media platforms, including television and radio financial news. They’re out to build their firm’s brand, and their own brand too.

Josh led the three of them on a brisk tour of the world markets.  They talked about macro risks and opportunities – what they think the immediate future has in store. And they were very good at it, impressively weaving together stories, themes and data into a powerful package of possibilities. It was wonderfully entertaining and even plausible. Some bits of it may even turn out to be accurate.

But my thumbs kept twitching (“pricking” in the Bard’s turn of phrase) throughout. Josh hinted at the inherent problem with the approach each took, suggesting that such moment-by-moment commentary and reaction is effectively meaningless.  I’d take Josh’s point one step further and call it wicked.

Most obviously, the problem is that Wall Street’s forecasters (usually chief strategists and chief economists) are truly dreadful at providing insight into the future. That lousy track record is entirely consistent with a long line of academic research (most prominently from Philip Tetlock) establishing the lack of value provided by so-called “expert” forecasters. Sadly, there is not a lick of evidence that anybody is or can be any good at market forecasting. And there’s even good reason to believe – when you get a chance to take a glimpse backstage – that Wall Street knows that the forecasting game is a hot mess. But the Street’s leaders need to be under oath (and it needs to be in their best interest) for that truth to be revealed.

The now-defunct Bear Stearns won a noteworthy 2002 litigation involving former Fed Governor and then-Bear Chief Economist Wayne Angell over forecasts and advice he and the firm provided to a Bear Stearns client named Count Henryk de Kwiatowski (really) after the Count lost hundreds of millions of dollars (really) following that advice (back story here) when Angell’s forecasts turned out to be wrong. The jury awarded a huge verdict to the Count but the appellate court reversed. That Court decided that brokers may not be held liable for honest opinions that turn out to be wrong when providing advice on non-discretionary accounts.

But for our purposes, the main story isn’t what’s most interesting.  Instead, consider a line of defense offered by then-Bear CEO Jimmy Cayne. Cayne apparently thought that Bear could be in trouble so he offered a creative and disarmingly honest concession given how aggressive Bear was in promoting Angell’s alleged forecasting expertise to its clients. Cayne brazenly asserted that Angell was merely an “entertainer” whose forecasting and advice should never give rise to liability.

Economists are right only 35 to 40 percent of the time, Cayne testified. “They don’t really have a good record as far as predicting the future,” he said. “I think that it is entertainment, but he probably doesn’t think it is” (and I doubt that the Count was much amused). “I don’t know how he spends most of his time,” testified Cayne. “He travels a lot and visits people and has lunches and dinners and he is an entertainer.” Thus Cayne forthrightly conceded that Angell’s forecasting didn’t have any predictive power. For Cayne, as ever, the goal was simply to be entertaining and to make sales. That the Count lost hundreds of millions of dollars was merely collateral damage (and not even necessarily unfortunate at that).

Of course, Cayne was precisely if hypocritically correct. As both Josh and I have noted before, Wall Street’s predictions and forecasts are notoriously silly. Yet, as Josh said yesterday, nearly every media appearance by a forecaster includes a question and answer that involves a market forecast, often a highly specific market forecast – “it’s part of the gig.”  These predictions and the thought processes underlying them can be very entertaining indeed, but none of us should take them any more seriously than Jimmy Cayne did. Sadly, many of those who consume such forecasts (including business television viewers, “advisors” at the forecasters’ firms, and the customers of those firms) aren’t aware of the danger they present and thus the wickedness they portend. Not only do they not ignore them except as mere entertainment, they act on them, and that’s very dangerous business indeed.

I was talking about this issue today with Jason Zweig (the wonderful columnist for The Wall Street Journal), and he reminded me of the research of psychologist Paul Andreassen (see here, here, here and here, as well as Jason’s exceptional column here), who demonstrated years ago that people who receive frequent news updates on their investments earn lower returns than those who get no news and that they act even more precipitously and damagingly during times of great volatility (when, perhaps not coincidentally, they are more likely to tune in to the financial news). What Wall Street forecasters do is simply not a good thing.

At yesterday’s session, as part of what he sees as his role – to ascertain “where we’re headed” – LPL’s Jeff Kleintop did even more than offer standard forecasts and calls about market strength and related matters. He also made the (unsupported) claim that now was a particularly good time for investors to invoke active management (despite its highly suspect record). To be clear, I support active management in certain situations, most notably as a means to mitigate risk and to “tilt” a portfolio.  But there is precious little evidence for the idea that active management can generate alpha on a consistent or persistent basis or that we can somehow predict in advance who those successful alpha-generating managers might be — now or any other time. Indeed, if I had a dollar for every time some alleged expert claimed that it was “a stock pickers’ market” without the least bit of support before or evidence since, I would have as much money as a big-time hedge fund manager.

The forecasting game can be great fun. I enjoy it and have fun with it. It’s the engine that drives much of what pretends to be financial and business television. But it’s dangerous too.  Wicked even. My advice that you won’t fare well by paying substantive attention to what Wall Street forecasters predict is one forecast that you really should follow.