By James I. Moore, CFP®

"It’s tough to make predictions, especially about the future."

The above quote is commonly attributed to Yogi Berra, the Yankees catcher famous for his unique and memorable sayings. I’m not sure if Yogi was actually the first one to say it, but regardless, the quote always makes me chuckle. It would sure be a lot easier to make predictions about things that have already happened, wouldn’t it?

Even though we all know we can’t predict the future, it doesn’t seem to stop us from trying. We do it all the time, from filling out March Madness brackets (always a humbling experience) to guessing who will win the upcoming election. The news is filled with predictions and opinions from various “experts” doing the same thing.

When it comes to the world of investing, predictions are especially common. Will the Fed lower interest rates this year? How many times? Will the proposed tax legislation pass? What will be next month’s CPI number?

These are valuable issues to consider, but it is important to avoid overconfidence when dealing with the unknown. And we shouldn’t lose sight of the fact that these things really are ultimately unknowable, even though there’s no shortage of overconfident “experts” making it seem otherwise.

But what if you actually could predict some of these things with accuracy? Would you be able to consistently make successful investment decisions based on those predictions? Here are a few examples where knowing a piece of information in advance could have led to overconfidence and ultimately a poor short-term investment decision.

Example 1

Netflix released their earnings results in April 2024. Let’s pretend that before the official company announcement, you successfully predicted that Netflix would beat their quarterly earnings and revenue estimates as well as increase their subscriber count by more than what Wall Street expected. Using that information, what would be your prediction for what would happen to the stock price? Of course the stock price would go up, right?

Netflix stock ended the day down 9%. Why would the stock be down so much after “good” news? Well, in addition to the earnings report, Netflix also announced that they would no longer be reporting on the number of subscribers going forward. That announcement seemed to alarm investors, who interpreted the announcement as a lack of confidence in the company’s future growth. Netflix’ report was a mixture of positive and negative news, and investors seemed to react more strongly to the negative news this time around.

This scenario highlights how many factors are involved with investing. It’s not just the numbers on a spreadsheet that matter, but the real-life business factors behind those numbers as well as the subjective response of investors to the totality of all that information.

Example 2

What if you could go back in time to the beginning of 2020 to give yourself a message that says, “There will be a huge global pandemic this year. Governments will issue stay-at-home orders and economies will be hit hard as many industries are essentially shut down.” Knowing this information, would you make any changes to your investment strategy for the year? The news does sound pretty scary. What if you decided to sell everything and stay out of the market for 2020 to “protect” yourself?

Selling would have looked smart for a while, but it would end up being a terrible mistake. Even though the stock market dropped to start the year, it rebounded fairly quickly and the S&P 500 ended the year with a total return of 18%.

Of course, we all remember the fear and volatility that 2020 brought. It wasn’t easy, but if you had an investment plan and stuck to it, your investments likely ended up doing well that year. Even if you somehow predicted ahead of time what was coming, there’s a chance that prediction could have led you to make a poor investment decision because of overconfidence.

One of my takeaways from that period is that even if the “scary thing” that we think might happen actually does happen, it’s very possible that the market won’t react as negatively as we thought it would.

Example 3

In 2011, Standard & Poor’s downgraded United States government debt from AAA to AA+. This was the first time US debt was rated less than AAA, the highest quality rating that can be given.

Let’s pretend you were trading U.S. treasury bonds and somehow predicted this would happen before it happened. What would you do to profit from the situation? Bonds 101 says that if a bond gets riskier, it requires a higher yield to compensate for that risk, which in turn means that the price of that bond will decrease. So of course, after the shocking announcement that US debt has been downgraded, treasury bonds would drop in value, right?

Well, after the downgrade announcement, U.S. treasury bonds actually increased in value! It broke the fundamental rules for how bonds work. However, it also made some sense from a different perspective in that the downgrade sparked fear and led to a flight to safe assets. And apparently, most investors still viewed U.S. treasury bonds as one of the safest assets you could hold, regardless of what the rating agency just said.

This story again highlights the challenges involved with predicting short-term market reactions. Even if you correctly predicted the downgrade was coming, you would have also needed to correctly predict how both domestic and international investors would interpret the news and react to it.

Final Thoughts

“It ain't what you don't know that gets you into trouble. It's what you know for sure that just ain't so.” – Mark Twain

The real world is complex. There are many factors that influence economies and investment markets. The world is also filled with humans, who make rational decisions as well as emotional decisions. All of this should lead to caution and humility when assuming simple cause-and-effect relationships between things, especially over short-term time horizons.

That said, it’s not bad to make predictions and forecasts. It’s important to understand what is going on in the market and the world and to be prepared for the future, and predictions and forecasts can be helpful tools for that. However, we must always be aware of the overconfidence that those predictions and forecasts can bring.

Crazy, confident predictions are exciting and draw attention. It’s harder to become popular by saying “I’m not sure”. That’s always something I try to keep in mind whenever I’m reading any financial commentary.

At Eclectic Associates, we prefer the peace of mind that comes from having a sound financial plan with a long-term approach that is set up to withstand whatever the future may bring. If you have any questions about your personal finances, please feel free to schedule a complimentary phone call or meeting with one of our fee-only financial advisors.