Flipping FTSE prediction game

Most financial powerhouses seem to hang their coat on bullish new year predictions for the stock market to woo investors, only to disappoint them later before another bout of over-bullishness.

The financial powerhouses’ predictions for where the FTSE 100 will end 2012, taken from the Daily Mail, are:

The Share Centre – 6565
UBS – 6100
Killik & Co – 6100
Credit Suisse – 6100
Brewin Dolphin – 5850
Charles Stanley – 5800
Goldman Sachs – 5800
Legal & General – 5500
HSBC – 5400
Morgan Stanley – 5000

Last year they were pretty much all wrong; some in a spectacular fashion.  The truth is that over the short term, market movements are so unpredictable that a prediction is simply no more than a guessing game.  I had a guess myself – I suggested somewhere around 5000 but I fully acknowledge that this is simply a guess and nothing more.  Unless it turns out to be correct in which case I will puff out my chest and provide a post-event rationalisation that makes it seem as if I knew all along.

To prove a point I am conducting an experiment throughout this year using a highly scientific instrument – a coin.  That’s right. Against the might of these financial titans I dare to wield the mighty coin.  I am using a £1 coin in fact.  If you want to join in and try this at home remember not to use a Euro in case you have to change coins half way through the experiment thus ruining your carefully controlled scientific conditions.

The FTSE closed at 5,572.28 on 30th December 2011 and re-opened on 3rd January 2012. Every day I will flip a coin to form a closing price for each day of trade. If it’s heads, the index increases by 1%, if it’s tails, the index falls by 1%.  The random walk that this will follow until the end of 2012 will be compared with the knowledge and foresight of various titans of finance, including those above. The daily close will be recorded on Twitter @mel_kenny with the hashtag #FlippingFTSE and there will be a recording every Friday from different, sometimes exotic, locations. There will also be important quarterly investment bulletins explaining the complex decision making processes behind the coin flipping.

You may be asking yourself ‘What’s the point of this nonsense?’  Well, it’s fun to do and write about plus there’s really nothing like a practical demonstration to make a point.  There will be important messages throughout the experiment – there’s one just below.  And who knows, I might get on the telly again!

So here is important message number 1:  You cannot predict short terms movements in the FTSE 100, or any other market. Sensible investors stop trying to time or predict the market. Research by Dalbar (July 2008) found the average annual stock market return between 1988 and 2007 was 11.6% whilst the average stock market investor return was just 4.5% because on average, people tend to rush into the market when it does well and leave when doing badly – even among some of the professionals.  Attempts to time the market have in the past generally reduced investor returns.

However, as Warren Buffett stated in 2008 “I have no idea what the stock market is going to do next month or six months from now. I do know that the economy, over a period of time, will do very well, and people who own a piece of it will do well.” In other words, he believes that short term thinking is guesswork but he has a view about the longer term future.

Signing off for now but the coin will return shortly!