Here We Go Again: Forecasting Follies 2016

Image from xkcd

In a great scene from the classic film, The Wizard of Oz, Dorothy and her friends have — after some difficulty and fanfare — obtained an audience with “the great and powerful Oz.” When, during that audience, Dorothy’s dog Toto pulls back a curtain to reveal that Oz is nothing like what he purports to be, Oz bellows, “Pay no attention to that man behind the curtain,” in an unsuccessful effort to get his guests to focus their attention elsewhere.

Like the Wizard, the great and powerful on Wall Street would have us pay no attention what is really there — “behind the curtain.”  Yet once in a great while the Street rats itself out so that we get to find out, beyond a shadow of doubt (if you still had any), what the big investment houses really think about what they do and who they do it to.

The now-defunct Bear Stearns won a noteworthy 2002 legal decision involving former Fed Governor and then-Bear Chief Economist Wayne Angell over advice he and the firm gave to a Bear Stearns client named Count Henryk de Kwiatkowski (really) after the Count lost hundreds of millions of dollars in a just a few weeks (really) following that advice by trading currency futures on margin (really). The Count had been born in Poland, escaped invading Nazis, been banished to Siberia by the Soviets, escaped and travelled across Asia on foot to Tehran, talked his way into the British Embassy, became a renowned RAF pilot, moved to Canada, became an engineer, and made a fortune trading used airliners, most famously selling nine 747s to the Shah of Iran over a game of backgammon in the royal palace (really). He also became the owner of the famous thoroughbred racing institution, Calumet Farm (really).

Bear offered the Count “a level of service and investment timing comparable to that which [Bear] offer[ed its] largest institutional clients” (which is not to say that they were any good at it). The key trade was a huge and ultimately disastrous bet that the U.S. dollar would rise in late 1994 and early 1995. At one point, the Count’s positions totaled $6.5 billion nominally and accounted for 30 percent of the total open interest in certain currencies on the Chicago Mercantile Exchange. The jury awarded a huge verdict to the Count but the appellate court reversed. The appellate judges determined, quite conventionally, that brokers may not be held liable for honest opinions that turn out to be wrong when providing advice on non-discretionary accounts.

But I’m not primarily interested in the main story. Instead, I’m struck by a line of testimony offered at trial by then-Bear CEO Jimmy Cayne that does not even show up in subsequent court opinions, despite extensive recitals of the facts of the case. The generally “cocksure” Cayne apparently thought that his firm could be in trouble so he took a creative and disarmingly honest position given how aggressive Bear was in promoting Angell’s alleged expertise to its customers. Cayne brazenly asserted that Angell was merely an “entertainer” whose advice should never give rise to liability.

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Missed It By *This* Much

It’s part of the gig. A Wall Street strategist, economist or even a run-of-the-mill investment manager gets a crack on financial television and is asked about his or her forecast for the market. Instead of wisely objecting to the premise of the question, the poor schlemiel answers and, once matters play out, is shown to have been less than prescient (even though the forecast is likely forgotten). Indeed, one forecast that is almost certain to be correct is that market forecasts are almost certain to be wrong.

The delightful old Mel Brooks/Buck Henry spy satire Get Smart, which was on television from 1965-70, included a number of funny catch-phrases uttered by Don Adams as agent Maxwell Smart (played by Steve Carell in the movie). One of them was the following, offered when Max had, yet again and like our fearless forecasters, screwed up.

So, as year-end approaches, let’s take a look at how much “this much” is — how badly various Wall Street market forecasts missed it with their prognostications for the S&P 500 in 2013.

Squadouche

“Expert” forecasting is generally terrible. Beyond terrible, actually. As if it were needed, here is some more evidence to add to the huge, steaming pile that already exists.

ESPN employed 43 alleged baseball experts who predicted the 2013 play-off teams, division winners, league champions and World Series champions. These are all people who are well paid to follow baseball closely — all day, every day — in order to report on it. You’ll recognize many of the names. 

How did they do? Dreadfully. Of course.

Of the 43, eight thought the Cardinals would win their division and 10 more thought that the Cards would get to the one-game play-in as a wildcard team. But none had St. Louis in the World Series. Not a single one. But that’s a really, really good record compared to what they thought about the Red Sox.

No “expert” thought that Boston would win the American League East. Four of them thought the Sox would squeak into the post-season as a wildcard team. Not a single one thought that the Red Sox would even make the Fall Classic, much less win it. None.

Think about that the next time you consider putting Series serious money to work based upon a market or economic forecast. Not one of 43 full-time, highly paid “experts” called for either the Cardinals or the Red Sox to be in the World Series.

Zero. Zip. Nada. Squadouche.