Mickey Kim: Economic storms are inevitable; so are bold, unreliable forecasts

INVESTING: Mickey KimThe financial markets and economy have been hit by their own metaphorical Hurricane Ian in 2022. Stocks are firmly in “bear market” territory (down more than 20%). Bonds, historically considered “safe” investments, have also been crushed, as the yield on the 10-year U.S. Treasury Bond (UST) more than doubled from about 1.5% at the start of the year to almost 4%. Mortgage rates track the UST, so the average interest rate on 30-year mortgages has surged from about 3.1% at the start of 2022 to 6.7% (highest since 2007), slamming the brakes on housing and refinancing.

In stressful and frightening times like these, it’s natural investors hunger for certainty to important questions like: how much lower will stocks go; how much higher will interest rates go; how much will the Fed have to raise interest rates to tame inflation; and are we in or headed for a recession and how deep will it be.

Unfortunately, the financial media was built to satiate this appetite as an all-you-can-eat buffet of forecasts offered by a veritable army of financial “experts,” pundits, carnival barkers and soothsayers. Forecasters know fear sells, and their forecasts are “click bait” to be monetized. Competing for eyeballs, an outlandish but seemingly well-reasoned doomsday prediction is catnip to the fearful.

It’s almost enough to cause you to abandon your long-term plan. Don’t do it! Two of the greatest minds in investing believe economic and market forecasts offer only the illusion of certainty and you should never base your decisions on them.

Howard Marks of Oaktree Capital Management recently published a memo, “The Illusion of Knowledge,” which started with a quote from famed economist John Kenneth Galbraith: “There are two kinds of forecasters: those who don’t know and those who don’t know they don’t know.”

The trouble with trying to model the economy or financial markets, Marks said, is they are incredibly complex, with literally millions of moving pieces which are both interdependent and can change in importance depending on the mood of the day. Physics says an apple falling from a tree drops down, not up or sideways (ask Sir Isaac Newton). 1+1=2, every time. If the economy and markets moved based strictly on data, they might be easier to understand and predict. Unfortunately, while NASA can land a spacecraft on a moving object a billion miles away, nobody can model or consistently and accurately predict the economy or markets.

Marks referred to the Fed as the “home of more than 400 Ph.D. economists” and one of the world’s biggest producers of economic forecasts. He cited economist Gary Shilling, who wrote: “The Federal Reserve’s forward guidance program has been a disaster, so much that it has strained the central bank’s credibility. Chair Jerome Powell seems to agree that providing estimates of where the Fed sees interest rates, economic growth and inflation at different points in the future should be junked.”

Marks believes it’s better to acknowledge “you can’t know the future; you don’t have to know the future; and the proper goal is to do the best possible job of investing in the absence of knowledge.” Navigate, don’t predict.

According to Warren Buffett, in addition to economists being lousy forecasters, “something different happens all the time. And that’s one reason economic predictions just don’t enter into our decisions. My partner Charlie Munger and I in 54 years now have never made a decision based on an economic prediction. We make business predictions about what individual businesses will do over time, and we compare that to what we had to pay for them.

“But we have never said ‘yes’ to something because we thought the economy was going to do well in the next year or two years. And we have never said ‘no’ to anything because we were right in the middle of a panic. There are so many variables. I mean, in the hard sciences, you know that if an apple falls from a tree, that it isn’t going to change over the centuries because of anything or political developments or 400 other variables that go in. But when you get into economics, there are so many variables, and the truth is, you’ve got to expect good times and bad times in business.”

Buffett buys “great businesses with great managers,” who will be able to succeed during difficult times just as they would during good times. “We’re going to have good years, bad years, in-between years and maybe a disastrous year some year,” he said. “We care a lot about the price. We do not care about the next 12 months.”

If market fluctuations and negative forecasts affect you (as it does most people), the best advice during these periods is to simply not look. The market will do what it does.

You have a choice whether you want to experience the stress of every market move and negative news story or choose to ignore them while the economy and markets work through these challenges—focusing instead on what really matters and brings you joy.•

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Kim is Kirr Marbach & Co.’s chief operating officer and chief compliance officer. He can be reached at 812-376-9444 or mickey@kirrmar.com.

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