A few weeks ago I was interviewed by a local business journal about our firm’s thoughts as to how the market would react in 2014 and how to best prepare for that reaction. Essentially, the journal was asking us to predict where the market would be in 2014.
Most of our clients know the answer I am about to write, which was, “No one can predict the direction of the market with any degree of accuracy.” “If that were the case, (as I told the interviewer) neither she nor I would be having this interview.” In other words, we’d be clinking our glasses on our respective tropical beaches because we’d have gotten filthy rich predicting and timing the moves of the market.
Markets are pretty efficient – meaning that the price of any particular stock in any particular sector, industry or country is generally priced based on all available information about that particular security. Think of it this way: Wall Street hires thousands of analysts to comb through the financials of thousands of publicly traded companies. So the information about those companies is known almost instantaneously and the prices of those stocks react instantly to any change in information.
If Wall Street analysts are good at forecasting the market and different stocks, why do they still work as analysts?
If Wall Street was any good a predicting the market, how did 2008 happen?
If I had to make a prediction for 2014 it would be this: Markets will rise and fall and be jittery and overly-emotional. They’re just like people – after all, that’s who drives markets anyway.
It can be very tempting to try to predict and time the markets and react emotionally. A few months ago we had the debt ceiling issue and there was worry that markets would crash. We recommended clients hold steadfast – and our clients are happy they did; as markets didn’t crash but actually reached new highs shortly afterward.
This wasn’t brilliance on our part – but sticking to our strategy of once we find the right mix of assets for a particular client, the majority of returns comes from that investment mix – not timing.
Not timing and not predicting prevents us from one of the major psychological flaws that can happen to money managers – confirmation bias. Say we predicted that 2014 was going to be a bullish year and we were right, now we would be tempted to enter 2015 thinking we had superior knowledge of the direction of the market instead of really admitting it was dumb luck.
The best way to predict is to own the market and diversify accordingly. This includes owning a well-diversified mix of index funds and or ETFs (which we do for our clients) and learn to manage emotions (which we try to do for our clients).
This allows our clients time to focus on things worth focusing on such as family, friends, goals and aspirations and frees them from the burden of trying to time their investments (something we admit we cannot do). It also allows us to focus more on building relationships with our clients and keeps our clients costs very low.