Forecasting can be a mug’s game

There is, according to official data, a glut of oil around the world currently.

That explains why the price of this commodity dropped back under $50 over the past weekend and is far from the $100 it was hovering around as recently as 2011.

These facts have to be assessed next to the near hysteria that surrounded oil amid the global financial crisis after 2008.

In June of that year, for example, oil reached $140 as many supposed geniuses provided so-called analysis to outline why oil supply was finite and declining.

There were a lot of po-faced experts lining up to provide Armageddon-like consequences for the Western world as oil prices would remorselessly climb towards $200.

It turns out that all of these, including some eye-popping well-paid investment banks, got it 100% wrong.

Instead of declining supply, production surged as new sources of oil emerged amid high prices and those producing at low cost turned on the taps.

On the other side consumers found ways to be fuel efficient as everyone from car to heating suppliers designed machines that sharply lowered oil consumption.

Demand lowered as supply surged and prices fell markedly.

If you want to understand why inflation has been so subdued for a couple of years now just look at how low oil prices have coursed through the economy.

Plastic is made from oil-based products. Fertiliser depends on high energy inputs.

As oil prices collapsed other forms of energy fell too.

Coal, for example, is also at multi-year low prices presently and this is helping industry to manufacture for less.

The entire transport infrastructure, from planes to trains and ships, is enjoying a huge cost benefit from low fuel costs and that is helping to keep consumer prices low.

And all of this has taken place against a backdrop of tough geopolitics.

The Middle East has experienced enormous volatility in the last two years.

Usually, that would trigger speculative bouts of oil price increases but that has not materialised this time.

The big lesson from all of this is that forecasting the future can be a mug’s game.

In the industry that I work in — financial services — there is a remarkable tendency to believe forecasts can be precision engineered.

Never mind that none of us knows what will actually happen tomorrow but still produce spreadsheets confidently predicting outcomes next year and beyond.

The fact is that economics, like life, is wholly unpredictable.

For sure, it is valuable to project scenarios about how economies, companies and products could evolve in to the future.

Taking those precise forecasts too seriously is akin to making life decisions from a fortune teller.

The laugh out loud aspect of forecasting was brought home last week when the film Back To The Future was shown.

In 1985, it had forecast what 2015 would look like. The vision portrayed in the film had flying cars but no mobile phones.

It projected a world in which fax machines would be still relevant.

We cannot really imagine what the world will be like in 2045 except to understand it will change hugely from today.

Probability is the key to assessing anything that is put in front of you as a forecast.

I’d attach a ratio of 0.9 times to the probability that my salary will arrive in one month’s time and about 0.2 times to any forecast about the price of oil in four weeks’ time.

Such a probability screen is normally ignored by headline hunters who confidently predict what will happen in the future.

Protecting your savings and carving a store of wealth is an endless challenge.

But when looking at forecasts remember words are cheap, while money is expensive.

Joe Gill is director of corporate broking at Goodbody Stockbrokers. His views are personal.


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