Finance

There Will Always Be Sorcerers – Of Dollars And Data


In The Lucifer Principle, Howard Bloom tells the story of four tribes that lived in the Nilgiri hills of India prior to the arrival of the Europeans:

One tribe, the Badaga, were farmers. Another, the Kota, were craftsmen. A third, the Toda, were herdsmen. And the fourth, the Kurumba, made and raised almost nothing at all…But of all four tribes, the one with the greatest economic power was the Kurumba.

Living in the jungle, the Kurumba did not raise wheat, did not make household utensils, and did not provide meat…yet the work they offered brought [the others] trekking through the dense foliage to the Kurumba village, begging for a service that was totally intangible, one whose value cannot even be proven to exist. The Kurumba were sorcerers.

Bloom goes on to explain how the Kurumba provided protection against the unknown in exchange for goods/services from the other tribes. You have a family member with a mysterious ailment? Talk to the Kurumba. You want to know the outcome of a future event? Visit the Kurumba. Need help warding off evil spirits? You get the point.

Bloom concluded that what the other Indian tribes wanted from the Kurumba was a sense of control. They wanted agency over their lives and the lives of their friends and family.

You might hear the story of the Kurumba and laugh at the naïvety of the other Indian tribes, but you’ve probably relied on the Kurumba’s services as much as they have. The only difference is that the Kurumba of today go by a different name. Maybe you’ve heard them called market pundits, financial analysts, or macroeconomic forecasters, but they are one and the same. They all are just prophets for a different time.

Of course, the soothsayers of today don’t feel as untrustworthy as those of the past because they rely on data and logic to make their arguments instead of magic. But this doesn’t imply that they are any better at it.

In fact, a report from CXO Advisory Group analyzed 6,582 public market calls made by 68 pundits from 2005-2012 and found that their average accuracy was 47%, slightly worse than chance. Despite this, there is still a high demand for pundits and their predictions. It reminds me of the famous reply given to Ken Arrow after he discovered that his long term weather forecasts were no better than chance:

The Commanding General is well aware that the forecasts are no good. However, he needs them for planning purposes.

For all of recorded history humans have been like this. We’ve had a deep desire to know the future. For example, in The Devil’s Financial Dictionary, Jason Zweig described how ancient Mesopotamian priests, known as baru, would study “the contours of a liver or lung taken from a freshly sacrificed sheep” in order to predict what was to come. Their work wasn’t simple either. As Zweig notes:

The baru worked from an intricate template, often rendered as a clay map that charted dozens of variations on the surface of the sheep’s organ.

I hear stories like this and realize that there will always be demand for those who can predict the future, regardless of their competence in doing so. This is why I don’t expect active stock funds to ever go away. Though passive funds now hold more U.S. stock than active funds, there will always be people who believe that they can pick the winners (or pick those people who can pick the winners). There will always be sorcerers.

The only difference is how that sorcery will be practiced. Thousands of years ago it was examining a sheep’s liver on an intricate clay map, but today it could be charting price trends using Elliot wave theory. Either way, complexity is what sells the product. Because when things are too simple, people seem to discount them. As Nate Silver stated in The Signal and the Noise:

For instance, the for-profit weather forecasters rarely predict exactly 50 percent chance of rain, which seem wishy-washy and indecisive to consumers. Instead, they’ll flip a coin and round up to 60, or down to 40, even though this makes the forecasts both less accurate and less honest.

This explains why saying “I don’t know” is such an unsatisfying answer to people who want to know the future. Though “I don’t know” is usually the most intellectually honest response you can provide, it won’t win you many followers.

So what’s an investor to do in a world filled with sorcerers? Ignore them. Ignore them as much as possible. Because if you don’t, you may be persuaded to do something harmful to your finances.

I get the feeling. Markets are down about 30% in real terms over the last year, U.S. bonds have declined by double digits, and there’s more uncertainty than there has ever been in the economy. This is the precise time when the sorcerers come out. It’s the time when they make their glorious predictions about what comes next and what you should do about it. And some of them may be right. But what about when they are wrong? What is the cost?

Back in March 2020 I saw the damage that these “sorcerers” can inflict upon retail investors. I watched one pundit declare that “hell is coming” right before going long. I watched investors panic and move to cash. I watched people lose faith in the future.

But, I also watched markets reach new all-time highs in under six months. I didn’t predict this. I didn’t know that this would happen. But I did know not to listen to the sorcerers. And, today, I suggest you do the same. Because they’ve been playing the same game for millennia. The only thing that has changed is how they play it.

Thank you for reading.

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This is post 304. Any code I have related to this post can be found here with the same numbering: https://github.com/nmaggiulli/of-dollars-and-data




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