The Problem With Predictions

Almost a decade ago I remember reading a brilliant book called The Retirement Myth by Craig Karpel. He was one of a handful of individuals who in the early 1990s were just starting to recognize that the conception of retirement that baby boomers like myself had grown up with was going the way of the Corvair or Duster.

You know that model. Work at one or two companies until you are 65, retire with a nice pension, play golf until you are 75, get sick and spend the next four or five years in and out of various health care facilities before checking out of this world altogether. As Karpel pointed out, this conception was really a phenomenon for one generation, the World War II generation. Latecomers like the rest of us would face a lot more choices and opportunities and a lot fewer guarantees.

One prediction in the book that caught my attention and seemed ludicrous came from none other than Harvard University‚s brilliant young economist, Gregory Mankiw, who today serves as President Bush‚s chairman of the Council of Economic Advisors. Mankiw predicted that by the start of the 21st century waves of baby boomers selling their homes as they prepared to retire would depress housing prices for decades to come. For at least the first four years of the new century, this scenario has failed to materialize. In fact, it‚s been wrong by a country mile.

Listening to Jeremy Grantham speak at several Morningstar conferences in recent years, it‚s hard to imagine a financial professional with more confidence in his views (see article on page 57). He‚s exceedingly bright, and I doubt Johnnie Cochran or Alan Dershowitz would do very well arguing against him on this topic. But anyone that sure of themselves raises a red flag on the credibility front.

I‚m simultaneously suspicious of and sympathetic with the numerous commentators predicting that the stock market will produce zero to mid-single digit returns for the remainder of the decade. Their reasoning is sound and logical. There is no tailwind of declining interest rates to lay the groundwork for the next bull market.

Even if it turns out to materialize, the net result is unlikely to be a straightline 4% chart that clients can easily grasp. Just look at the last four years. Yes, equity returns have gone sideways over the longer time frame, but try telling that to a client in October 2002 or March 2003 or January 2004.

Another prediction that has always perplexed is attributing everything to demographics. Many analysts used demographics to explain the amazing U.S. bull market of the 1990s. But most of the money steadily pouring into 401(k)s is still steadily going into those same plans, and stocks have stopped rising 20% a year. Back in the 1990s, Larry Kudlow debunked this theory, saying it was rising earnings, falling interest rates and lack of attractive alternative investments that were driving stock prices, not baby boomers.

Finally, if equities go nowhere for another five years, that will have made the present decade a great time to be investing. You shouldn‚t need to ask why. Just look at the few people who were investing $10,000 a year in the 1970s.

The larger point is that the future is unknowable. When we look back in five years at the most critical factors driving the events of the second half of this decade, it‚s highly probable that most of us would have named few of them.

Evan Simonoff


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