Economics Is No Compass to Wealth

Alan Stevens |

Casino.jpg“Practical men, who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist.”

 - John Maynard Keynes

Some commentator I am – at least half of you have already stopped reading. How dare I mention Team John Maynard, when anyone who knows anything realizes that salvation only comes through Team Ludwig (von Mises)? In reality, it’s time to recognize that schools of economics are not much help in investing in the stock market, which consists of evaluating the value of companies rather than correctly guessing the winning lottery number.

The S&P 500 is up over 7% from its low in December, while the NASDAQ has broken through 5,000 for the first time since 2000. Yet I spend much of my week in conversations with financial advisors and individual investors who explain to me how they are now shorting the market or otherwise making bets on the market’s imminent demise.

I am going to use the pronoun ‘I’ to be polite, but understand that I also mean ‘You’ when I say that I have no ability to forecast interest rates. I have no ability to forecast currency rates. I have no idea how to forecast GDP, capacity utilization, labor participation or consumer confidence. My forecasts on implied volatility are no better than a coin flip.

Playing the Odds

If you think the market is going to stop rising within some time frame, you have a 50% chance of being right. If you think it is going to fall within some time frame, you also have a 50% chance of being right. But the chance of you being right on both calls is only 25%, which means you are going to be wrong three out of every four times you try this. These sound like bad odds for a short trade with the risk of theoretically infinite losses. It also explains why most macro hedge funds are unable to outperform the S&P 500 over time.

If you believe that current market valuations are unjustified or that we are entering a speculative bubble, then you are certainly justified in pulling your capital from the markets. But just because the market is at all-time highs does not mean that it must fall, or that it must fall within some time frame. My advice is to put your efforts into finding great companies selling at attractive prices. I promise you they are out still out there.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer

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