Secrets Of Success: A forecast? My lips are sealed
Saturday 02 December 2006
Readers will know my long-standing view that if you are going to make market forecasts, the end of the year is about the worst time to do it, not least because this is when everyone else is being asked to do the same thing. The only thing we know for certain is that a collective market view is bound to be wrong, and a calendar year forecast is among the most dangerous of the year as a result, quite apart from having little intrinsic merit.
A more sensible time to make forecasts, if you have to do them at all, would be in April and October, when the normal six-monthly seasonal market trends kick in.
The last few weeks of the year are a particularly unreliable time to study market behaviour in any case, as the approach of the end of the calendar year is known to be characterised by all manner of unusual goings-on, mostly related to the behaviour of institutional investors. By this time of the year, most fund managers know how good or bad their fund's annual performance (on which their remuneration will be based) is going to look when December 31 comes round.
They would be less than human if they did not work out how this might affect their bonuses. In some cases this might produce a very defensive stance, in order to lock in gains that have already been made. In others, it might have the opposite effect, but the price movements of individual stocks do often show some surprising and not easily interpretable movements as Christmas approaches.
According to the UK Stock Market Almanack, an entertaining collection of market oddities and data published every autumn, December is the third best performing month of the year, after January and April. Most professional investors have become used to adding exposure to equities in December, as it is a short-term bet that, for whatever reason, tends to pay off more often than not. There has been only one December since 1981 when the market has produced a loss of 5 per cent.
This is not to say that such a rare outcome cannot happen again; those with particularly long memories may recall that December 1974 was the stinker to end all stinkers, though the bounceback in January 1975 was strong and immediate and effectively marked the end of the great mid-1970s bear market.
Seven out of 10 times the stock market goes up in December. Of the 20 worst days in the 22-year history of the Footsie index, not one has taken place in the last month of the year.
(For those who like this kind of data, you might also want to note that there are some clear tendencies for stock markets to react in a consistent way to unusually large daily market movements. So, for example, when the market rises or falls by more than 2 per cent in a day, which is rare enough to be sure of attracting front-page headlines, you can be highly confident that there will be a counter-move soon afterwards, though it will typically retrace only part of the initial movement.)
Having noted all the usual caveats about forecasts, my working hypothesis is that the outlook for shares in 2007 is still a positive one. The sharp stock market setback from May to early August was a useful reminder that risk tolerance among investors is still high, bordering on complacent.
In a world that has been flooded by cheap money and excess liquidity, the extraordinarily high prices that are still to be found in the art and London property markets cannot be sustained indefinitely.
However, that does not mean that the stock market cannot continue to advance, now that the mid-year wobble has been firmly put behind us. The change of tack by the Federal Reserve at its August meeting, when it put its two-year programme of interest rate increases on hold, has changed the dynamics of the US stock market in what looks like a decisive turning point.
It is noticeable, as the US fund manager Bill Miller pointed out in a flying visit to London this week, that since then two long-predicted changes in style and regional performance have started to kick in. One is that the US market has started to catch up on other markets that it has tended to lag behind in recent years, and the second is that growth stocks have started to outperform value stocks.
Both these trends are ones that I would be surprised not to see continue. If that view is right, then we might be re-entering a period like the second half of the 1990s, when index funds put in a strong performance and large cap stocks did relatively well. I also continue to have some money on the proposition that some of the sectors that were so badly burned after the 2000 market peak, including several technology and telecoms stocks, and possibly also media stocks, are finally coming round for a relatively strong period of performance.
(Although he is resigned to losing his remarkable record of having beaten the S&P 500 index for 15 successive calendar years this year, Miller is also very bullish about the prospects for equities in 2007. In the absence of unforeseen external shocks, he thinks that the US market has scope to gain at least 15 to 25 per cent in the next phase of the market cycle, sustained by flat or falling bond yields and continued, albeit slowing, earnings growth and continued M&A activity.)
Having been cautious earlier in the year, intuitively, a bullish stance on shares still feels right to me. However, I am not going to break the habits of a lifetime and start to make definitive forecasts until the Christmas and New Year market forecasting season is through, by when we will be able to see where the weight of consensus expectations lies.
The primary use of forecasts continues to be as a contrary indicator. Just look at what has happened to the Japanese stock market this year: most pundits predicted a further good year for the Tokyo market and instead it has been a turkey. The last thing you want when making a prediction is to have everyone else on your side.
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