Faulty forecasts The hazards of industry prognosticating

By John Krier JLK Global

tf\VER the last 18 months, my \-lindustry friends and I have been sharing many a laugh over the specious forecasting that has been foisted on us by "serious analysts."

These "experts" are representing groups that should know better given the statistical resources and various graduate degrees they possess. Remember how the housing market was "stabilizing" in the second half of 2006? How about the forecasts of 1.6 million housing starts for 2007 that were still hanging on in the first quarter of tftis year?

Why do obviously smart people make these statements when they (should) know that they are either wildly optimistic or, for the chronic bears, wildly pessimistic? In some cases, the motivations are obvious, in others a bit more mysterious.

When I analyzed the analyzers I was able to assign qualifications and motivations according to who they are and who they represent. This gave me a kind of syllabus to quickly separate the "wheat from the chaff."

I have created five main categories for forecasting pitfalls, any one of which can result in predictions that are either useless or dangerous to the investor.

Agenda Driven

Many forecasters employed by industry associations and agencies-or who depend on them for consulting contracts-fall into this category. Their motives should be obvious, as well as understandable. But what they don't seem to realize is that their credibility shrinks with every wonky forecast, and so they fall victim to the law of diminishing returns. Why forecast if nobody is listening?

There is another type who bears mentioning in this category. That is the "position talker." What would you say if you were short a couple hundred contracts on the futures board?

Model Driven

I call this the "dreaded model" because of the dangers of using a computer model managed by young MBA's who know little or nothing about the industry. When the data comes out, the handlers have little or no clue whether or not the conclusions make any sense. So if you don't recognize that the input is suspect, you are certainly unable to spot the flaws in the outgoing result.

All market fluctuations have similar characteristics, but they also have drivers unique to the current situation. lt is those unique circumstances that must be recognized and accounted for in any conclusion. As Wall Street has discovered, to its dismay, computer models work great as long as the trajectory of the market stays the same. but sudden shifts in projected trends can blow their carefully planned schemes sky high.

Fear Driven

When a company is faced with catastrophic losses, managers have a tendency to use the "rose-tinted glasses" scenario when faced with decisions about future direction.

This is dangerous because in times like these the "sit tight and wait for the next bull market" non-strategy

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