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Worst Predictions Part 1: Dow 36,000

1999 was a monumental year. It was the final year of the 1900s, a century of unprecedented social and economic change. We entered the 1900s through the birth canal of the industrial revolution and in 1999, we were undergoing a new metamorphosis: the digital revolution. The world watched and waited anxiously for the start of the 21st century. Fears about Y2k (remember that??)  and what this new digital age would look like stirred in our minds, but we were eager, excited and optimistic.

1999 was an incredible year for the stock market. Wall Street finished at all time highs on December 31, 1999. All three indices ended at record highs: the Dow Jones, the Nasdaq and the S&P 500. In 1999, the Nasdaq rose 85.6%, the Dow Jones rose 25.2%, and the S&P rose 19.5%. What a way to end the year! And what a way to end a fabulous decade. In the 1990s, the Dow Jones posted its biggest gains of any decade in its history!

Like any other year, 1999 was a year of stock market predictions. Over our next four newsletters, we’ll be taking a look at some of the worst stock market predictions in history. No matter their basis—academic, intuitive, research-based, or crystal-ball-derived—predictions have a way of turning out wrong. History is littered with examples, but investors are slow to learn the lessons of history and prone to repeat its mistakes.

One infamous example of the 1999 optimism stands out among the rest—a book written in 1999 entitled, “Dow 36,000” by James K. Glassman and a former Fed economist Kevin A. Hassett.  The basic premise of this book was that stocks were undervalued and the Dow Jones would rise to 36,000 by 2002 or 2004.

Boy—hindsight really is 20/20. Subsequently, the Dow Jones sank, pushed down by the bursting of the dot-com bubble and the September 11th terrorist attacks, until it reached a low 7,286.27 in October 2002. For the next few years, the Dow Jones struggled higher, recovering ground it had lost and moving to a new record high of 14,164.53 in October 2007—October seems to be a consequential month! And we know what happened next.

The subprime mortgage crisis spilled over into other parts of the economy and threatened to crash the global financial system, bringing the Dow Jones down to around 6,500 in the early months of 2009—even lower than its low point in the recession of the early 2000’s.

Today, the Dow Jones is around 26,000—still a long way to go. Now, other predictions of how high the market will go and when have also come and go. There was another book predicting Dow 100,000 around the same time. If 36,000 was outlandish, what do you call that?

Books like these expose the very human tendencies of investors. There are several exposed by this prediction. First, investors tend to extrapolate to no end. That is, they tend to look at past performance and take an imaginary ruler and extend that performance infinitely into the future. While trends do exist in the markets, trends also reach pivotal points where they reverse themselves. If you ever hear someone use words like “always” or “never” you know that this mistake is being made. This is the same mistake that made the Great Recession in 2009 so terrible. Investors thought the prices of real estate would “always” go up and could “never” go down—or at least not very much.

Secondly, this prediction demonstrates the anchoring effect. The anchoring effect is a cognitive bias that affects investors. It is the human tendency to rely too heavily on recent information. Or to rely to heavily on preconceived ideas about how markets function. Investors are notoriously short-sighted. In 1999, investors were so optimistic they began to think that the markets could go nowhere but up! They started using phrases like “this time its different.” That’s another dangerous phrase.

Third, this prediction smacks of data snooping. This is something that researchers need to extra careful of. Data snooping is when you come to the table with your mind already made up about what your research will show you and then seek out research that supports your own opinion about what you think is going to happen. This is the opposite of being objective.

Dow 36,000 wasn’t just a silly claim. It was based on data! It was well-researched! One of the guys who wrote it was an economist for the Federal Reserve for crying out loud! But even the best, most careful research can be misleading if you give in to the data-snooping bias.

The natural reaction to Dow 36,000 is something like this: “Well they were right about the number—I mean eventually the Dow will hit 36,000—they were just wrong about the timing.”

That’s a very naïve reaction. I’m sorry, but I live in the real world where timing matters! Thinking I can retire in 2 years and then realizing, oh wait, it’s going to take 20 years, isn’t “just being wrong about the timing.” It is a catastrophic difference. Furthermore, how do we know the Dow will ever hit 36,000? The assumption behind that claim is that the market “always” goes up. And what do we know about phrases like this? Right—dangerous.

Was Dow 36,000 impossible? Here’s where I’m going to shock you. The answer is no. Academics will now assert that this prediction was silly and impossible. But trends in the market have a way of defying logic and deviating from predictions. Dow 36,000 could have happened then, just like it could happen now. When momentum takes over, it can take the markets anywhere. The problem is in saying that it WILL happen and basing an investment strategy off that premise. 

Rather than relying on predictions, you need an investment strategy that can adapt—a strategy that will maximize exposure during bull markets and be defensive and protective during bear markets. And that, my friends, is what we do. Want to learn more? Call me at 859-291-9879.


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