A Prediliction For Prediction

The Daily Reckoning
Weekend Edition
January 11-12, 2003
Paris, France
By Addison Wiggin

The old timers tell us that when a bear market reaches its nadir, stock market discussions have the same effect as tequila shots on a teenager the morning after: you can’t even stomach the thought of them any more.

If that’s so, we’ve got a long way to go before this one has run its course.

Exhibit one: Applying the research of brain scientists to the stock market, CNN and Money Magazine have come to some astounding conclusions about investor behavior during the bust. “We come [hard-wired] with this built-in prediction addiction,” Money Magazine’s resident market-apologist Jason Zweig says confidently. “Brain research [shows] that you’re going to try to outsmart the market whether you can or not.” And who would argue with brain scientists? They’re geniuses, after all.

“If a company has stable earnings quarter after quarter,” Zweig continues, “and each quarter its earnings go up another penny, and then all of a sudden, they don’t go up anymore, investors go nuts.” [Uh, you think?] “A tremendous sell-off occurs,” the CNN article continues as if the idea needs explanation, “not because of a dramatic market swing but because of a subtle change in an otherwise predictable pattern.”

It’s not clear to me how a three-year bear market and a 39% drop in the DOW constitutes a ‘subtle change’ but… according to Dr. Scott Huettel of Duke University “[my brain] is set up to look for that sort of structure… even if there were no structure there.” In other words, even if the market is tanking like a capsized barge-full of luxury cars in the North Sea, we’re likely to see it righting itself in the near future – because ‘that’s what stocks always do’.

Hmmmn… okay. “Understanding those parts of the brain will help us understand not so much why the stock market crashed,” say Drs. Read Montague and Gregory Berns, another couple of geniuses at Baylor and Emory respectively, “but why people didn’t sell two years ago.”

What a relief. Scientific proof that if you bought at the top, rode your over-priced stocks all the way down, thereby losing your shirt, but are still holding on ‘for the long run’ – you don’t have to worry about it! You’re biologically programmed for this kind of stupidity!

What would we do without CNN and Money helping us apply science to these crazy post-bubble markets, huh? We’d be lost, no doubt.

And look, they’re champions of statistics, too.

It was widely reported this week that the stock market will end 2003 higher – because “the odds are against it” falling for a fourth year in a row. Our friend John Mauldin had a choice word or two to say about this particular “statistical conclusion” on Friday, so I’ll leave the commentary up to him.

Mr. Mauldin: “I read everywhere, or at least from the cheerleaders, that the odds are that we will see a rise in the market, because there has only been one time in history when the markets went down four years in a row. The odds are only one in a hundred.

“With all due respect (actually with no respect at all), that is the worst statistical garbage I have read in quite some time. First of all, there have only been three times when the market have even had a chance to go negative four times in a row, and one of those times the market was down less than .5% in a year, so that hardly counts as down three in a row. So if that type of statistic was valid, then the odds would be either 1 in 4 or 1 in 3.

“But [either way] it is meaningless. The conditions in any one given year are the reason for the market to go up or down. It has nothing to do with odds. If any broker tries to get you to buy stock based upon this ‘statistic’, hang up or fire him.”

Alas, this ‘prediliction for prediction’ afflicts us all. Bill Bonner spent the week trying to figure out what to expect in the year 2003. You’ll find the ‘Great Expectation’ series below. (Great reading, by the way, Bonner in top form!) Porter Stansberry has been seeing great things with respect to a company expecting phase III trial results on their AIDS vaccine (more in a moment). And even Daily Reckoning readers are getting in on the act.

“I’m old enough to have experienced the real estate crashes of the 70’s, 80’s and 90’s,” writes one reader. “I’m still waiting for the next one which I believe will dwarf the others.

“I work in an area that is being promoted as the Gold Coast or Newport Riviera of California. It’s behind the Orange curtain, supposedly far enough away from Los Angeles to make a difference in lifestyles as well as insulate it economically from many of the pitfalls that L.A. has experienced. Won’t work. A friend told me today that she has a Steinway baby grand piano from a previous marriage she’s been thinking about selling and its worth about $70,000.

“She called one of the premier piano sales firms nearby and the manager said he’s getting 6-10 calls a day to sell these pianos. People are hurting so bad that they’re trying to stave off the lenders by selling their assets. Another friend told me that his son works for a mortgage firm and many customers who’ve been buying homes for one million to 1.5 million have debts of $700,000 to 1.2 million dollars! It’s only a matter of time – and not much longer at that.”

Unfortunately for some this is one ‘predictable pattern’ that seems to have really taken shape and could pose a problem.

Then again, how would I know? Brain scientists tell me I’ve got a ‘prediction addiction’ that I can’t seem to shake. Do you suppose they’ll set up de-tox clinics for this kind of thing? Maybe they’ll invent a new disease to diagnose… and drugs for a cure.

Until then enjoy your weekend,

Addison Wiggin,
The Daily Reckoning
Paris, France
January 11-12, 2003

P.S. In the beginning of November, I wrote to you about the work Porter’s group has been doing following a particular candidate’s drug in phase III FDA trials. He writes to tell me the FDA announcement is pending. If you’d like to review the opportunity, take a look at the November letter:

P.P.S. This week’s ‘Book Of The Week’ is anything but an attempt to predict the future, rather it exhibits another of our predilictions here at the Daily Reckoning… interpreting patterns in history:

— Daily Reckoning Book Of The Week —

How the West Grew Rich: The Economic Transformation of the Industrial World by Nathan Rosenberg & L. E. Birdsell

For thousands of years, human beings lived in unrelieved misery: hunger, famine, illiteracy, superstition, ignorance, pestilence and worse have been their lot.

How did things change?

How did a relatively few people–those in what we call “the West”–escape from grinding poverty into sustained economic growth and material well-being when most other societies remained trapped in an endless cycle of birth, hardship, and death?

This fascinating book tells that story. The explanations that many historians have offered – claiming that it was all due to science, or luck, or natural resources, or exploitations or imperialism – are refuted at the outset, in the book’s opening chapter. Rosenberg and Birdzell are then free to provide an explanation that makes much more sense: free markets and capitalism.

“A lucid, well-reasoned antidote to false notions that prosperity has been built upon imperialism, exploitation, or legerdemain. It goes far toward helping explain why modern attempts to achieve prosperity through ‘fiat and force’ fizzle out in confusion or worse.”

–Jane Jacobs,
author of Life and Death of Great American Cities

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THIS WEEK in THE DAILY RECKONING

01/10/03 MORAL HAZARD

“…There is a certain rhythm to moral hazards. Whether petty or great, all are exhilarating at the beginning…and heartbreaking at the end. For there is always a price to pay. “All the universe is moral,” wrote Emerson early in the 19th century. Now, no one believes it…exceptus…”

01/09/03 GREAT EXPECTATIONS

“…A man who lets himself be bossed around by Ought is no man at all, in our opinion. He is a dullard, a wimp, and a wuss…a logical, rational, reasonable lump. Thankfully, most men, most of the time, will not readily submit. Instead, they do not what they ought to do, but what they want to do. Stirred up by mob sentiments or private desires, they make fools of themselvesregularly…”

01/08/03 NO EXPECTATIONS

“…The problem with this silly old ball we live on is that life is infinitely complex. The closer you look, the more you see. What seems simple from a distance…say, disciplining a teenager or the politics of South Africa…is alarmingly complicated up close. The whole truth, being infinite, is unknowable. And for every tiny little piece of it there’s a revolver in some poor fool’s mouth…and a special corner of Hell waiting forhim…”

01/07/03 REASONABLE EXPECTATIONS

“…Of all the lies that the new investoriat took up, none was more provocative than the dollar. In order for anything to retain any value – particularly a currency – it must be in limited supply. What ought the dollar to do now, we ask again? We give our verdict before any evidence has been presented: it ought to godown…”

01/06/03 UNREASONABLE EXPECTATIONS

“… [following the stock market crash] government policymakers and central bankers were soon out in force – spreading so many safety nets, there was scarcely a square foot of pavement on which to fall. Of course, the little guys never knew what they were doing in the first place… was it such a surprise that they did the wrong thing again; holding on… dragging out the pain of the correction…and postponing a real recovery?…”

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HEADLINE, NEWS And INSIGHT: A Rare Look At A Few Unusual Investment Destinations Around The Globe…

Asia’s Economic Prospects for 2003
by William Thomson

“…On the global economic front, beyond the obvious interplay of oil prices and confidence, is the health of the three largest economic blocs: the United States, Europe and Japan. Consensus estimates have been coming down recently, but they still seem far too optimistic. In fact, Asia should be the star region in a difficult year…”

The Endgame in the Congo
by James Passin

“…Let the masses focus on the war headlines. The real story is the cascade of peace talks breaking out in Africa. The history of Banro, for example, is a microcosm for the sad history of the Congo. For four years, stripped of its gold, Banro drifted on almost zero volume in a range between US$0.20 and US$1.40. But in April 2002, the DRC settled with Banro. Banro regained 100% ownership of four gold deposits…and its stock price massively rerated, surging over 10 times…”