Deciding Whether To Use A Forecasting Formula
The main vogue for formulas began in the late thirties, and was primarily a reaction to the market declines of 1929-32 and 1937-38. Naturally, the market analysts who first worked with formulas were more interested in building protection against declines than profiting from advances, and they understandably assumed that the severity of future drops in market prices could match these two earlier periods.
It is almost impossible to resist the temptation to forecast stock prices, and it is difficult for a formula investigator to know at any particular time whether he is making a forecast on the basis of available facts or whether he is allowing his optimism or pessimism of the moment to dominate his efforts. In 1949, for example, one investigator wrote about the original Keystone plan whose weakness has turned out to be too low a secular growth rate more recent stock-price fluctuations gives us some cause to question the assumption that the trend will be as strongly upward in the future as it appears to have been over the entire period from 1897 to 1946. If this commentator had been writing either three years earlier or three years later, it is doubtful that he would have made such a criticism.1
Whether or not any particular investor should use a formula is, of course, a matter of individual judgment. Some formulas, such as the Genstein Plan, require a fair amount of calculation, and many people are unwilling to discipline themselves to set aside time to manage their investments.
At the high points of big bull markets, many investors are ready to scoff at formulas. It is true that any portfolio containing bonds is at a disadvantage during bull markets, but how many individual portfolios perform as well as the Dow-Jones during a bull market? Besides, who is to predict that the market will always be one big bull market after another? A formula is powerless to take maximum advantage of a straight-up price rise, but the more normal pattern of stock prices is to undergo frequent periods of decline also. The “ideal formula timing plan,” as summed up by one authority “is not that which secures the greatest gain for a given assumed pattern of security-price fluctuations but one which achieves the greatest gain for a degree of risk appropriate to the circumstances of the investor.”
Undoubtedly, the prestige of formula investing is at its lowest ebb during periods of steadily rising prices, but after every decline a new revival of interest occurs, simultaneous with the discovery by many investors that they are not the analytical geniuses they had previously thought themselves to be. In 1949, for example, formula investing had proved itself superior to the average investor’s judgment, and Business Week reported: “Despite the steep hills and valleys on market price charts, formula-investing during the past two decades would have produced far better results than those achieved by most individual money managers.”
Using formulas is a personal choice, but if you’re serious about investing, it’s something you should at least consider.
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