Why to Ignore Stock Market Forecasts

In my book, Invest Like a Fox, Not Like a Hedgehog, I devote some space to the futility of using forecasts to make investment decisions. In that portion, I refer to the work of Philip Tetlock on political forecasting. For the latest on that work and an update on what Tetlock’s been doing, read this interview. I think this line of work is important for anyone who spends time managing even a modest investment portfolio.

We found two things. One, it’s very hard for political analysts to do appreciably better than chance when you move beyond about one year. Second, political analysts think they know a lot more about the future than they actually do. When they say they’re 80 or 90 percent confident they’re often right only 60 or 70 percent of the time.

There was systematic overconfidence. Moreover, political analysts were disinclined to change their minds when they get it wrong. When they made strong predictions that something was going to happen and it didn’t, they were inclined to argue something along the lines of, “Well, I predicted that the Soviet Union would continue and it would have if the coup plotters against Gorbachev had been more organized,” or “I predicted the Canada would disintegrate or Nigeria would disintegrate and it’s still, but it’s just a matter of time before it disappears,” or “I predicted that the Dow would be down 36,000 by the year 2000 and it’s going to get there eventually, but it will just take a bit longer.”

So, we found three basic things: many pundits were hardpressed to do better than chance, were overconfident, and were reluctant to change their minds in response to new evidence. That combination doesn’t exactly make for a flattering portrait of the punditocracy.