About Those Wall Street Forecasts

This is the time of year when forecasters make their predictions for the year ahead. There are folks on Wall Street who are paid lots and lots of money to come up with these predictions.

Their track record, however, is not very good. In fact, there’s almost zero correlation between their predictions and how the market actually behaves.

As Warren Buffett once said, “Forecasts may tell you a great deal about the forecaster; they tell you nothing about the future.” That’s certainly true. I dug into the numbers and found that there’s a decent correlation—a negative one—between their predictions and the year that just ended.

This means that forecasters simply take what just happened and assume the opposite will happen but to a much lesser degree. Forecasters also assume a very narrow band for the market’s performance, generally about 5% to 12% (though not always). In reality, the market is far more volatile.

First, I have to thank the folks at Bespoke for providing me the numbers. This scatterplot shows Wall Street’s prediction for the coming year on the horizontal axis and the actual result on the vertical axis. The R-square is a measly 0.0024. In other words, the pros aren’t very good.

Here’s the same chart but with one difference. The horizontal axis is still the prediction for the coming year while the vertical is for the year just ended. The R-square is a respectable 0.58. Notice how the trend line points downward, indicating a negative correlation.

If you want to make a respectable Wall Street forecast, here’s the equation. Take the return of the year just ended, then divide it by five. Take that and subtract it from 10.7% and presto, that’s your easy Wall Street forecast.

Now, for forecasting for how the market actually behaves. Weeellll….

Posted by on January 2nd, 2020 at 10:20 pm


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