Why investors shouldn’t bother forecasting in 2023
You can also listen to this podcast on iono.fm here.
FIFI PETERS: ‘Stop forecasting’ apparently is what we need to be doing right now. It’s really difficult, given that it is that time of the year when a lot of economists and investors tend to make predictions about what the rest of the year will look like – probably to make their lives and their jobs a little bit easier.
But our next guest says that if we want to do our investments a big favour in 2023, the resolution should be to stop forecasting. We have Dr Adrian Saville, a professor at Gibs, for more on this.
Adrian, first of all, happy New Year, compliments and all that jazz. I feel what you’re telling us to do is akin to telling a baby not to cry, or a lion not to roar. It’s in our nature as human beings to want to know where we’re going and what to expect on the journey, but you’re telling us to stop it. What should we do then?
ADRIAN SAVILLE: All the best, Fifi. It’s great to be with you. The message is I think a very simple one, but it’s a very difficult one because you’re absolutely right. It’s human [nature] to want to forecast and to have a good sense of what’s coming at us down the river. And [with] that ability to see that future, even if it’s murky, we’ll be able to position ourselves really, really well.
Anecdotally, just imagine three questions – if:
- At the start of 2020, I asked you what will economic growth for the world economy be;
- At the start of 2021, I said to you what will inflation be for the United States; and
- At the beginning of 2022, I said to you tell me which economy is going to have three prime ministers – or which country.
At the end of each of those years, you would’ve been stunned that the answers were:
- Almost a 5% contraction;
- 10% inflation for the US; and
- The economy to hold the title was the UK.
It’s an anecdote, but it makes the very powerful point that in our human ambition, [in the] desire to see into murky, misty, distant futures, we set ourselves up for an almost impossible task, and we actually set ourselves up to do worse in investment performance, rather than better.
So the short message is: stop it.
FIFI PETERS: Okay. So then what should we start? Go ahead.
ADRIAN SAVILLE: You know, just to be serious about it, I’m giving you three anecdotes. You could easily push back and say oh, but those are three silly examples. You’ve got industries of professionals that have careers dedicated to working out where an economy is going to go, where inflation’s going, where interest rates are going, currencies, companies, etc.
And sitting alongside this, there is a very, very broad body of evidence that suggests our ability to forecast is not good at all.
That doesn’t mean no one can forecast. In fact, Philip Tetlock [co-author of Superforecasting: The Art and Science of Prediction] has done some fantastic work under the banner of ‘superforecasters’, where in that work they’re able to identify a small set of people that have an uncanny knack and ability to see a long way into the future.
But just think of how your portfolio might have been positioned at the beginning of last year where the US economy was still strong. There was going to be a little bit of inflation, but it was transitory, interest rates would hike a tiny bit, and no one had any sense that oil prices were going to a hundred-and-something dollars a barrel.
And so the message in that, as much as it’s tempting to try and imagine that we can see the future, we are constantly surprised, shocked, by what the future delivers.
And more often than not, positioning our portfolios for something that we think is certain hurts us more than it helps us. And so that then asks what we do in its place.
I think the key message for the new year’s resolution for 2023 is stop forecasting and start doing something different.
FIFI PETERS: Which is?
ADRIAN SAVILLE: Well, the ‘differentness’ is there’s nothing novel about it.
I think this is what the discipline of investing, of successful investing, boils down to. It’s about buying good assets at good prices, ensuring that there is diversity – and diversity, a point of emphasis in diversity is [that] diversity is not just different names. Having Apple and Google and Alphabet or Netflix in your portfolio is not diversification. Those are different names.
Diversification is where the assets behave completely differently from each other, and they give you shock absorbers, [so] that when one is catching a tailwind the other might be getting a bit of a sidewind.
Perhaps some are experiencing headwinds, but as a collective you have a basket of good assets at good prices; then give them the fullness of time and they will deliver successful results.
So [I’m] not trying to sort of pull the rug out from underneath my feet by suggesting any of these will do well in 2023. If I scan the world and I think of what are good assets – and the requirement is that they must be at good prices, that means we are involved in valuation not forecasting – the basket is wonderfully diverse.
The South Korean won is far more interesting than the US dollar. Taiwanese microprocessing stocks, in particular, and a stock like TSMC, I think, is an intriguing asset. High-quality emerging market equities look particularly well priced after having been neglected for a long time.
If we build a basket of those types of assets we’re likely to set ourselves up in a much better position at the start of any year, not just 2023.
FIFI PETERS: Can we get into the basket of high-quality emerging market equities – perhaps a few examples from that basket?
ADRIAN SAVILLE: Sure. I’ve just given one, and that is the case of Taiwan Semiconductor Manufacturing Corporation, or TSMC more conveniently.
TSMC is the largest contract manufacturer of microprocessors globally, and investors have been very shy of the stock because of its proximity to China, because of the sabre-rattling going on with China, and because of valuations that have put downward pressure on tech stocks globally. Taiwan Semiconductor is enjoying fast growth. It has a very wide moat – in other words, it’s what we would describe as a franchise business. You can buy this business on an earnings multiple of 13 times.
Now, could it go to 12 times or 11 times earnings? Quite possibly. The valuation pressure could stay in place, but here’s a good business. It has exceptionally good prospects. It has a very, very powerful franchise. Interestingly, [Warren] Buffett has been buying a lot of it for some time, and I would take that as a positive indicator. So that’s one example.
If you are looking for good-quality businesses a little bit away from emerging markets, I think Europe is a second really good place to go looking.
In all of the time that the US has been loved – and we’ve seen US stocks go on to incredible multiples – equivalent European companies have become neglected.
So you’ve got businesses that are very often close comparators to the US corporations but, because of the out-of-favour attribute of Europe, these high-quality global European businesses with long histories, powerful management teams, [and] strong balance sheets sit on multiples that are a fraction of the US multiples. So I think that’s a second flavour.
And then to really add diversification, to walk the talk, we have to put in things that are entirely different. And here physical gold, for instance, would be a very powerful diversifier to a basket of high-quality emerging markets and European equities.
FIFI PETERS: Adrian, I think I missed the part where you mentioned anything South African. Actually I didn’t, because you didn’t mention anything. [Both laughing.] Locally, though, what meets the criteria [for] a good quality asset that one should be looking [at] or one should have right now in their portfolio?
ADRIAN SAVILLE: Sure. Fifi, maybe to really drive home the point about diversification, if it is South Africans who are listening to this conversation this evening – and overwhelmingly it’s likely to be – then buying more South African assets isn’t diversifying. It’s concentrating your position, because your pension, your job, your home, your bank account, your savings are all likely to be rand-denominated. So diversification will be getting fewer rands and something else other than rands.
Having said that – you’re asking me a very direct question – I think that [with] the way that assets are priced, interestingly, the rand in and of itself could be quite an interesting position, because the rand continues to be priced very, very cheaply on a purchasing power parity basis.
Notwithstanding the goings-on in policymakers’ utterances, the South African Reserve Bank [Sarb] is global in its policy stance, or global in its policy stature. It’s highly regarded.
So the rand remains a favoured emerging-market currency from a structural perspective. But from a pricing perspective it’s attractive. So just rands could be quite an interesting position.
And then inside of South African assets, South African government bonds – long-dated government bonds – are appealing because you’re being offered 10% interest rates. Inflation looks like it has peaked. And if the Sarb remains strident you’re being offered very attractive carry on South African government bonds.
And then in South African companies, to name a couple of businesses that I think fit these criteria – and it’s a diversified basket, if we bought these three businesses – Glen Gerber’s Santova, a logistics business, Chris Seabrooke’s Sabvest Capital, which is one of the shrewdest allocators of capital, and Stor-Age, which has shown itself to be a very robust property business in the face of difficult economic circumstances.
FIFI PETERS: Right. Thanks so much for that conversation, Adrian, and even the picks locally. I know I drilled you a little for that. Dr Adrian Saville, professor at Gibs, has been giving us his insights on how to position for the year ahead.