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The Dumbest Thing You'll Ever Hear Financial Experts Say

When I'm wrong about something, I expect people to let me know. It's the only way I can get better at what I do. That’s why, when I see or hear an idea or notion being propagated which I know for a fact to be false, I try, with as much tact as possible, to let people know the truth (unless it's on my own personal blog, then I take all the liberties I want!)

On that subject, I’d like to share two of the biggest correlational fallacies I observe self-proclaimed financial erudites, and politicans who are wannabe economic prophets, using as talking points. Here they are:

“The economy’s doing well, so stocks should be doing well.”

“The President’s doing a great job with the economy—just look, the stock market’s doubled since he took office!”

When I hear people say this, my first thought is, “This guy (or gal) has no freaking idea what he’s talking about.”

To be fair, these are innocent lies. They're like fascinating urban legends which are so darn believable, you don’t hesitate to repeat them… and you don’t dare refute them, because you don’t have any proof they're not true. After all, it’s what all the “experts” on the two most credible media outlets--Facebook and MSNBC--are saying, right?

Well, as we know from what I've written before, the “experts” are often the ones who get you the most in trouble--they even take advantage of you. Take most stock brokers and investment bankers, for instance.

This group of individual are trying to get you to constantly BUY BUY BUY what’s popular… they don’t necessarily care about your returns. As contrarian investors, we know that buying when things are “good”—when the economy is doing great—is what the average “armchair” investor does… and he attains, at best, sub-par returns.

On the other hand, true contrarian investors buy stocks when the average, undisciplined, emotional investor has chucked shares of extremely valuable companies into the landfill for no good reason (like happened this week, albeit briefly).

We buy when there’s “blood in the streets.” And we make a killing doing it.

Consider again the article I’ve written here about buying at moments when extreme pessimism has recently peaked, and prices have stabilized and begun to recover. We buy at the “puke points,” where other investors have mostly thrown in the towel and there is no one left standing.

Before you accuse me of having nothing to back up my position, here’s some data to refute this “lie of all lies.”

The Data Never Lies

I don’t personally have the means to spend millions of dollars a year on data, nor do I have access to the best databases in the world. But I know someone who does. Some friends of mine over at Stansberry & Associates Investment Research, whom I highly respect, regard, and recommend, have gone back over 200 years to compare stock prices and the economy. S&A analyst Steve Sjuggerud writes:

Astoundingly, since 1800, when the economy has been doing really well (when “real GDP” has grown at 6% a year or more over the preceding 12 months), you would have lost money in stocks over the next 12 months.

On the flip side, when the economy was contracting (shrinking), you’d have made a lot of money in stocks. The compound annual gain in the S&P 500 index a year later was 50% higher than the gain in the index with “buy and hold.”

So, when the economy was doing poor, stocks followed up with great performance. When it was doing great, stocks underperformed, even lost money.

This data holds true not only in “ancient history,” where data was more scarce, but over the last 67 years where we have more discrete, quarterly data. Sjuggerud further writes:

Quarterly data for U.S. economic growth starts in 1947. So let’s start in 1947 instead of 1800. The results turn out the same:

	GDP Below 0%	GDP Above 6%	Buy & Hold
One-Year Return	18.5%	4.2%	7.3%
Time in Trade	13%	14%	100%
None of today's numbers include dividends.

Source: www.stansberryresearch.com

Since 1947, simply buying and holding stocks would have earned you a 7.3% compound annual gain. But when the economic times are great—when the economy has grown at 6% a year or faster over the preceding four quarters—stocks have delivered a compound annual gain of just 4.2% over the next 12 months.

Meanwhile, when the economy has contracted over the preceding four quarters, stocks have delivered an astounding 18.5% compound annual gain over the next 12 months.

The reason for the sub-par gains Sjuggerud points out following good economic times is simple. It’s the same reason investors who get their stock tips from Bloomberg TV do poorly—by the times things are great in the economy, things have already gotten expensive and prices are due for a “right-sizing.” Unfortunately, that’s when the average investor buys. He's too scared to hop in until his friends, co-workers, and even his grandma do.

Meanwhile, the contrarians have already “banked coin,” and the “mom and pop” investor is stuck holding the bag.

Notice also that a buy-and-hold strategy produces modest returns, without the risk of buying in or out at the wrong time. But clearly, buying when everyone else has fled the building or is scared to come back in (i.e., the economy sucks) is the superior strategy once again.

Memorize It: The Stock Market Is Not the Economy

So let me say it again: the stock market is not the economy. Do you want to know something extremely hilarious and crazy?

Even the Federal Reserve thinks that the stock market is a direct proxy for the economy. How do I know that?

Today is August 26, 2015, and earlier this week, we had the biggest correction since 2010. Who could have seen it coming? Stocks have been hitting all-time highs for months now. Stocks have been doing so well, yet the economy in general is experiencing lackluster growth--barely over a percent per year.

Yet, the Federal Reserve, anxious to vindicate itself in the atrocious "experiment" of monetary easing (a.k.a, quantitative easing, known to the masses as "printing money"), has been biting at the bit to raise prime interest rates, and end the period of low interest rates.

The only explanation the Fed can have to justify a rate increase is outstanding economic performance. 1% doesn't ualify as "great." So clearly, the Fed thinks the stock market performance is an indicator of good economic conditions. This brings me back to my question above abot "How I know that." Well...

Just today, New York's Fed Chief William Dudley basically told the world in no unclear language that the stock market performance this week makes the long-talked-about September rate hike "less appealing." Consequently, the betters on Wall Street came to a consensus that the odds of a September rate hike were about 25%. That means, the Fed is even less likely to raise rates, since they know that Wall Street will be betting for them not to.

And if the market does fall, of course the Fed will be blamed, because the general populace like most of you do truly believe that the stock market is the economy. Then, there will be nothing left in the eyes of America to justify the Fed intervening more in monetary policy. You see, the Fed keeping America hanging on its every word is simply the Fed trying to justify its own existence. The Fed is the Savior of the economy at the last straw, in the soon-to-be-proven-false world of Keynesian economics. Do you get it now?

So there you have it. I hope you've learned something new. The stock market is NOT the economy. And a roaring economy does not accompany high stock prices. Rather, it is preceded by them.

Still if there's one thing you should take away from this article, it's this: danger is around almost every corner when the markets are as heated and volatile as they are these days. If you want to succeed, learn the basic of investing and growing your wealth. Learn how to invest in solid companies which aren't prone to the schizophrenic headwinds of Wall Street gamblers.

If you're interested, start learning to invest now with me. Knowledge is free.

Live long and invest,

Jeremiah

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