|~||~||~|Do we over-rate the expertise of financial analysts when research has already proved that, on average, they are wrong by 200%?
Why do we bother with analysis? And I’m not referring to the head doctors. They have a valid role in our society, tending to the suburban European flock who reach for antidepressants when their feet get tangled in the duvet every morning. No! It’s the financial analysts to whom I refer. Gurus of the crystal ball, pronouncing on everything from oil and gold, currencies and interest rates, to our own beloved little cauldrons of volatility — the GCC stock markets.
Custom dictates that in the early part of the year these wizards, many of whom have even reached their mid-thirties, give vent to their projections for the year ahead. Given their track records on aggregate, why concern ourselves with their mutterings any longer? I’m reminded of this when I look back over four or five years’ worth of assembled soothsaying from large, and presumably credible, financial institutions.
Merrill Lynch, the world’s biggest securities firm by capital, raised its 2004 forecast for the US benchmark oil price to US$37.70 a barrel. Merrill analyst Michael Rothman expected the grade to average US$42.50 a barrel in the winter of that year, up by US$10.50, or 33% from the previous estimate of US$32. In fact it was US$47 by October. Barclays Capital, the securities unit of Britain’s third largest bank, reiterated estimates it made for 2004, among the highest suggested by all banks and securities firms. Barclays’ analysts forecast the price would average US$40.30 for all of 2004.
At the same time, Barclays’ analysts discussed gold. “We see this [the upside risk] as a temporary phase and that a recovery in global growth prospects will put gold under pressure again, particularly once the threat of terrorist attack during the US presidential election has passed.” Merrill Lynch increased their 2005 forecast by 21% to US$440 per ounce, and the 2006 estimate was lifted 17% to $420 per ounce. In addition, the long-term forecast was raised to US$375 per ounce from US$350. Both houses, with HSBC and five other top tier asset managers predicted the FTSE 100 would finish the year at 5000, rather than the 5618 actual closing figure.
If the spokesperson’s track record as a fund manager shows him or her to be, well let’s say, less than inspiring, why pay heed to the 12 months’ tarot readings? Take last week’s press release from a leading UAE financial institution: A specialist fund for UAE stocks posted a 92% rise for 2005, yet the UAE stock market posted an increase of over 110% during 2005, boosted mainly by the service and insurance sectors. If the market out-performed the managers, why invest with them? By extension, why listen to them?
The CEO of the same company continued by suggesting that the UAE bourse will grow in value by between 20 to 45% this year but not repeat the stellar growth of 2005. I think we are safe in assuming the latter prediction is on course. As I write, the market is undergoing a substantial correction and will have to rise by at least 20% to even reach the point where the earlier prediction was made.
How high will inflation go in 2005? Shuaa Capital forecast 3% in the UAE. Private estimates from anyone in touch with reality vary between 15% and 20%. But they also admitted it’s hard to know how high inflation will rise once this genie is out of the bottle, more akin to the alleged UK stockbroker advice, “the market could go either way today, up or down.”
“Dubai’s economy cannot sustain inflation that we’ve seen over the last year,” said Rasmala Investment’s CEO. And in September last year: “Market valuations across the Middle East and not just Dubai are unsustainably high,” he opined, only to predict a few weeks ago that liquidity and high oil prices in the region will continue to underpin market valuations.
A study published by Forbes in 2002 concluded that from 1982 to 1997 analysts were on average wrong by 200%. So here’s a business opportunity for some enterprising new finance whiz lurking in DIFC: Start your own firm. Look at the consensus estimates for earnings on any given company, cut them in half and publish your estimates. Hire MBA hopefuls to write reports reflecting your estimates then go and work on your golf handicap for the rest of the month.
Fact is, you’ll be closer than 90% of all analysts and after a year or two, you will look like a genius. Ironically, your analysis has a better basis in historical fact than those who are actually trying.
Stephen Corley is a business consultant with experience in fund and asset management.||**||
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