Where Are the Economists' Yachts?

The title of this post refers to a story from New York in the 1920s, when a visitor was being shown the harbor by the president of the stock exchange. He proudly pointed out the yachts of the bankers, brokers and other financial bigwigs.

"But," the confused visitor plaintively inquired, "where are the yachts of their customers?"

The moral of the story - if the word moral can fairly be used in a post about financial services - is why those providing advice were reaping so many more benefits than those whose interests they were ostensibly serving.

The corollary question this raises about the prognostications of economists and other vocal if not otherwise necessarily gifted seers is, as the old saw has it, 'if you're so smart, why aren't you rich?'

We abhor uncertainty so we rely on a variety of wise and presumably knowledgeable guides to help us peer into the future and improve our odds of succeeding. We are particularly dependent on economists, a profession which heatedly insists that their discipline is a science rather than merely a social science.  And yet, as the following article explains, their record is far from reassuring.

Are we being unfair? Or, perhaps, are we simply ignoring the obvious: if their projections were really that accurate, why would they be wasting time talking to all of us rather than just enjoying the fruits of their intelligence? JL

Wade Slome comments in Investing Caffeine:

If these economists/strategists/analysts/etc. were so clairvoyant, then how come we do not find any of them on the Forbes 400 list or see them captaining massive yachts?
“Where Are the Customers’ Yachts?” was a book first published about 75 years ago in 1940 by Fred Schwed, Jr. Before he became an author, Schwed was a professional trader who eventually left Wall Street after losing a significant amount of money during the 1929 stock market crash. The title of Schwed’s book refers to a story about a visitor to New York who admired the yachts of the bankers and brokers. Naively, the visitor asked where all the customers’ yachts were? Of course, none of the customers could afford yachts, even though they obediently followed the advice of their bankers and brokers.
The same principle applies to economists. The broad investing public, including many professionals, blindly hang on to every economist’s word. And why not? Often these renowned economists are quite articulate – they use big words, crafty jargon, and wear fancy clothes. Unfortunately in many (most) cases the predictions are way off base. What’s more, if these economists/strategists/analysts/etc. were so clairvoyant, then how come we do not find any of them on the Forbes 400 list or see them captaining massive yachts?
Recently, the Washington Post highlighted the spotty forecasting track record of the Federal Reserve, as it related to past projections of economic growth. As you can see from the chart below, the Board of Governors were consistently too optimistic about future economic growth prospects.

Source: Washington Post

The Federal Reserve has repeatedly proved it is no slouch when it comes to poor forecasting. The example I often point to is the infamous 1996 “irrational exuberance” speech (see also NASDAQ 5,000 Déjà Vu?) given by then Federal Reserve Chairman Alan Greenspan. In the talk, Greenspan warned of escalated asset values and cautioned about a potential decade-long malaise similar to the one experienced by Japan. At the time, the NASDAQ index stood at 1,300, but despite Greenspan screaming about an overvalued market, three years later, the tech-laden index almost quadrupled in value to 5,132.
There are plenty more errant economist forecasts to reference, but despite the economists’ poor batting averages, there is virtually no accountability of the pathetic predictions by the media outlets. Month after month, and year after year, I see the same buffoons on cable TV making the same faulty predictions with zero culpability.
While I have attempted to keep some of the economists/strategists honest (see The Fed Ate My Homework), credit must be given where credit is due. Barry Ritholtz, the lead Editor of The Big Picture, last year wrote a smart piece on the accountability (or lack therof) in the prediction industry.
In the article Ritholtz described some of the shenanigans going on in the loosely regulated prediction industry. Here’s part of what he had to say:

Pundits are highly incentivized to adhere to the following playbook:

1. make a brash prediction
2. if wrong, don’t worry…. no one will remember
3. if right, selectively tout for self-promotion
4. repeat cycle

Ritholtz also describes another time-tested strategy I love…The 40% Rule:

“The 40% rule is the perfect way to make a splashy headline and cover your butt at the same time. Forecast that there’s a 40% chance that the Dow Jones Industrial Average clears 12,000 by year end: If it does, you’ll look like a sage, and if it doesn’t, well, you didn’t say it’s the most likely outcome.”

Whatever your views are of predictions made by high profile economists and pundits, the media archives are littered with faulty forecasts. It is difficult to dispute that the projection game is a very tough business, and if you don’t share the same opinion, please explain to me…where are the all the economists’ yachts?