Why do we deride crystal ball gazing, palm reading, and even (some of us), astrology, and yet base our investment decisions on the predictions of financial analysts? How accurate are forecasts? Why should we believe that one specific area of futurology is a science? And how much forecasting is really being done?
Quoted companies are under an obligation not to knowingly allow a false market to develop in their shares. In practise this means that they issue frequent statements about current trading and outlook, and sometimes even issue a specific statement if they need to correct an over optimistic or pessimistic consensual view of their trading performance.
This means that if you are a financial analyst making a bad guess, you will have your work corrected in time to stop you looking foolish. Here are a couple of examples out of many:
Which illustrious broker said of Barratt Developments in May last year when the share price was 177p “hold, price target 302p” and in May this year “sell, target 75p” when the price was 105p, and in September “hold, target 172p when the price was 172p?
Or which major international financial institution said of Land Securities in June 2007 whent he share price was 1557p “Buy, target 2250p”, and in November of the same year when the share price was 1400p “Buy, target 1735p”? The same institution that said in July 2009 when the price was 500p “Hold, target 500p” and last month when the price was 530p “Neutral, target 645p.
Land Securities share price closed at 725p yesterday- 13th November !
If analysts can continuously adjust their estimates of earnings to reflect changed actual conditions as they become apparent, what forecasting is being done? What is the difference between continuously updated forecasting and a continuously changing share price?
Ordinary mortals can’t place bets on a race once it has begun. The analysis game is different. Analysts can keep switching their bets to the horse most likely to win, right up until the last few furlongs, and then claim credit for prescience.