Friday, September 22, 2017

Tetlock - Political forecasting is a loser's game... So follow trends?


The talking heads in the media spend significant time making political predictions. Even many Wall Street economists fall into the trap of giving political forecasting advice instead of digesting the economic data. The outcomes and impact of elections; pundits usually don't know. The time of geopolitical risks and wars; pundits don't know. The cultural changes that will impact markets; pundits don't know. Unfortunately, the media does like the experts who are doubtful and equivocate.  Pundits, however, are not often stupid. They provide significant amounts of information, background, and data. It is just that their ability to make good forecasts is poor. The advice from the forecasting expert Phillip Tetlock, the author of Superforecasters and Expert Political Judgment: How Good is It? How Can We Know? is very simple, "Don't listen to them". Their overconfidence will cause investor decisions to go awry. They place too high a probability on their views.

This failure of "experts" is another reason for using systematic investing like trend-following. You avoid the poor forecasting of political pundits and focus on what the markets are actually telling you through the behavior in prices. If the weight of opinion as expressed through "dollar votes" suggests that a market should be lower, prices will trend lower. A more uncertain environment will have shallower trends and more volatility. These prices may be noisy and may use the inputs of political experts, but the average price from crowd is still a good guess of what may happen. In some sense, the volatility in prices and slope of the trend provides an indicator on the confident of market opinion. 

Of course some may argue that you will be too late if you follow market prices or that market direction can be plan wrong, but evidence over the long-run is that trend-following is effective. At the very least, the direction of market opinion through dollar votes may be more informative than the opinions of talking heads. Someone can point to when markets get it wrong and there is a sharp price change or reversal, but that can be contained through risk management and stop-loses. The important point is that the aggregate opinion of market participants will do better than the overconfident opinions of experts. 


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