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In terms of rites and traditions, not much matches New Year’s. If you ever went on Family Feud and this category came up, you’d have a field day. Champagne toasts! “Auld Lang Syne”! Resolutions! Ryan Seacrest (Dick Clark for graybeards) counting down before a big glittery ball drops on national television!

Here’s another: professional investors’ annual market forecasts. Will they pop up in a game show? No way. But knowing and understanding them can help you make more money than game shows ever can, assuming a 50-show Jeopardy run isn’t in your future.

Parsing professional forecasts can also help you develop one of the most basic principles of contrarianism: thinking different, not opposite. Wall Street strategists are far more gameable than retail investors. As my old research partner Meir Statman and I found in a 2000 study for the Financial Analysts Journal, professional forecasters are wronger stronger and for longer than regular folks. Most individual investors are less stubborn and flip with trends – they won’t stand being wrong for too long before they flip. If they’re skeptical, four months of strong returns can turn them into bulls. If they’re getting optimistic, it just takes one big pullback to flip them back to skeptics. Amateurs often have less confidence in their views. As Meir and I found, when the media swings, individuals swing with them.

The pros are more stubborn. As we wrote then:

Individual investors and newsletter writers form their sentiments as if they expect continuations of short-term returns. High S&P 500 returns during a month make them bullish. The sentiment of Wall Street strategists is little affected by stock returns. We found no statistically significant relationship between S&P 500 returns and future changes in the sentiment of Wall Street strategists.1

Pros don’t flip like retail investors do. Their status breeds self-confidence – they’re darned sure they know where markets are going and are willing to be patient. They don’t give up the ghost, though they do mean-revert. If their forecasts for a year are too dour, clearly behind the mark halfway through, they’ll revise them up – just a bit, and largely so they don’t look ridiculous if the market finishes up strong. Many did this in 2014, pulling up their forecasts midyear when markets had already exceeded their full-year forecast for mid-single-digit returns – interestingly, the market then moved against them, with a third-quarter “stealth correction.” That’s The Great Humiliator (TGH) in action.

Armed with the knowledge that Wall Street pros are wronger stronger and longer – more often than not – we can game them. As we chronicled in Chapter 1, the curmudgeon posing as contrarian would say if all the pros are bullish, you should be bearish – and if they’re bearish, you should bullishly rage on. But as we’ll see, this is too black and white! Professional market gurus are wrong an awful lot, but not because the market always does the opposite of what they say. Understanding how and why they’re wrong – and why the market does what it does instead – is the first step to being right more often than wrong.

In this chapter, we’ll cover:

• Why most pros are mostly wrong most of the time

• What their wrongness really tells you about what markets will and won’t do

• Why nailing a forecast on the head isn’t important

Wall Street’s Useless/Useful Fascination With Calendars

Wall Street’s fascination with calendar-year return forecasts is largely foolish. Calendar-year returns don’t matter. It’s true! Market cycles are what matter, and market cycles don’t care about calendars. Rare is the bull or bear market that turns with the calendar page. No Standard & Poor’s (S&P) 500 Index bull market since 1926 began in January, and only one – 1957 through 1961 – ended in December. Maybe the next cycle aligns perfectly with the Roman calendar, or maybe it follows the lunar cycle. First time for everything! But nothing fundamentally changes when the calendar flips.

Yet Wall Street is fascinated with calendar years, and pundits like making yearly forecasts. They get headlines and eyeballs (always a good thing for a pundit). They’re splashy and easy for readers to make heads or tails of – just a number! A very specific number for an individual index. This makes them easy to track and grade, giving the pundits the aura of accountability, even if few bother filling out their report cards and almost no one looks at report cards afterward.

Everyone gets in on the action. The big wire houses dedicate whole teams of economists and in-house gurus to the cause. Many fund managers do it with cult-like media following. Smaller pros may do it in their quarterly reports. Bloggers and columnists commonly tell you, to the number, where they think stocks will go.

Individually, none of these forecasts are much use to the average investor. Numerical forecasts aren’t much use for these folks’ clients, either. They’re a sideshow! A pro’s forecasting report card doesn’t determine the returns their clients receive. Performance comes down to positioning. If they’re positioned for a bull market, and it pays off for clients, that matters far more than whether they predicted 7 % or 20 % in an 18 % year.

The trick for professional forecasts is to use them without using them. Nope, that isn’t a typo! If you collect the whole batch of professional forecasts for a year, you get a marvelous snapshot of the general direction and magnitude Wall Street expects. And that gives you a pretty good idea of what the market likely discounts and hence won’t happen.

Wall Street pros aren’t the only ones fascinated with calendars – firms are, too! My father, Phil Fisher, always complained about this. He saw himself more as a business analyst than a stock market analyst, and he’d say publicly traded firms are way too focused on this year’s or next year’s earnings per share, always thinking in calendar years! If they were private, he said, they’d think much longer term. If they had the chance to make an investment with a sky-high return over 20 years, they’d care less about up-front costs, business cycles and the reality of short-term losses. They’d care much more about the total return at the end of those 20 years, net of all those occasional big losses.

When a business starts a plant, the project bleeds cash – planning, architecture and construction drain capital. Businesses hyper-focused on calendar-year earnings might not take the plunge, regardless of how much it could enhance growth and earnings down the line.

So how’d we get so taken with calendars? We bred it into ourselves centuries ago. It all ties back to our agricultural roots, where the calendar really does matter. Weather patterns are seasonal, harvest time comes every year, and in the nineteenth century, one year’s results mattered. Whether we’re talking farming, ranching or logging and milling, harvest time is harvest time. It comes once a year.

Go back to the dawn of markets, and most American employment was in agriculture. Manufacturing was tiny, and service was scant. You had merchants and banks, but not the huge service industries of today. Agriculture dominated and so did its mindset – so we applied calendars to everything with rigor. Survival depended on it. It evolved into our core. Those who didn’t failed to pass their genes on.

Breaking free of Wall Street’s love of calendars helps you think differently. Calendar-year returns aren’t important. Whether a bull market lasts two years or 10 years, that’s important! Returns in each of those calendar years, not so much. The overall return, net of all the corrections and pullbacks, is what gets you to your goals. If you measured market returns in rolling 14-month periods instead of rolling 12-month segments, it would be just as valid.

Professional Groupthink

Professional forecasters tend to fall into groupthink. They’ll never admit it! They all swear their views are unique, smarter, superior. Some surely are. Yet professional forecasts have a remarkable tendency to cluster.

There are always outliers. Usually a few pros get it right each year, whether they’re right for the right reasons or just plain lucky. But the bulk tend to fall in a pretty tight range, giving the market (The Great Humiliator) an easy target – a big chunk of experts to humiliate in one fell swoop, what TGH “discounts” into current prices.

The pros don’t deliberately cluster, per se. But they all use the same information, and they tend to interpret it in similar ways. What they agree on – the consensus – is the crowd, the herd or whatever you want to call what the market discounts in pricing and what the contrarian must avoid. Fundamentalists all look at the same Federal Reserve policies, economic pluses and minuses, interest rates, valuations and politics, and they all make the same assumptions about what’s good and what’s bad for stocks – and most are pretty, well, conventional, one way or another. They all have the same tendency to mean-revert – betting on the long-term average by assuming small or down years follow big years. The technical analysts all use the same charts, patterns and rule sets. It’s all the same widely known information the rest of the herd chews over daily. Dow Theorists follow Dow Theory. Those following Robert Shiller share the same broad interpretation of the wonky smoothed 10-year price-to-earnings (P/E) ratio he spearheaded (aka CAPE – Cyclically Adjusted P/E).

As a result, everything the pros agree on is priced. Their expectations for how events and developments will impact stocks? Priced! Perceived risks discussed in reports and articles? Priced! Market reality is exceedingly unlikely to occur as they expect. Even if certain events follow their predictions to a T, the market reaction probably won’t.

Contrarians get this. They know most investors will share the pros’ expectations. The media reports professional forecasts far and wide, and that influences most folks’ outlooks. Investing-as-a-science folks will often agree with the gurus who use similar methodology, logic and theory. Technicians usually side with the pros who use the same chart patterns and rules. Contrarians also know the curmudgeons will expect the opposite direction.

How the Contrarian Uses Professional Forecasts

Contrarians know the bulk of professional forecasts are priced. Won’t happen. But what, exactly, is priced? The actual number? If the consensus says 6 %, would TGH hit them with 8 %?

It might. But probably not! Wouldn’t be nearly fun enough!

Here’s the secret: The actual number isn’t so important. Markets look more at the general bucket. A 6 % forecast is really just a prediction for returns somewhere in the low to mid-single digits. The difference between a 6 % and 8 % forecast largely is without meaning. If that’s where the bulk of professional forecasts fall, that’s your clue the market probably won’t land in that bucket. It might! TGH might decide to attack the curmudgeon anti-herd instead of the main herd – it has before (we’ll get to that). But more often than not, the market will end up doing something very different than what the bulk of professional forecasters expect.

Tracking the pros is easier than you think. Just takes some Googling and basic Excel work – and if you don’t know Excel, you can Google that too! (One of the Internet’s many miracles is its vast volume of technical tutorials.)

So with minimal time and perseverance, you can do what we do at my firm. Though I warn you, few readers ever will because it is counter-sensical. Every year, my firm’s Research staff rounds up all the professional forecasts for major countries’ benchmark indexes – S&P 500 for the US, DAX for Germany, Nikkei for Japan. You get the gist. For each country, we throw all the numbers into a simple chart. Histogram, if you want to get technical.

On the horizontal axis, we break the return spectrum down into 5 % ranges: 0 % to 5 %, 5 % to 10 %, 10 % to 15 % and so on. Then, in each range, we stack up every forecast that lands in it. It’s like stacking Lego bricks with numbers on them.

What you usually end up with is a bell curve formation, with the fat part showing you the range where forecasts are most tightly clustered. If forecasts are clustered in the 0 % to 5 % and 5 % to 10 % ranges, that tells you most folks think markets will be up a little bit – single digits. Again, differences without distinction. If they’re all in the low negative and low positive single digits, you know most expect a flattish year. If they’re in the 10 % to 20 % brackets, folks expect a decent bull year. And if they’re in the –10 % to –20 % range, most expect a bear market.

1

“Investor Sentiment and Stock Returns,” Kenneth L. Fisher and Meir Statman, Financial Analysts Journal, March/April 2000.