Those Lying Statistics

Now we take our time, so nonchalant
And spend our nights so bon vivant
We dress our days in silken robes
The money comes
The money goes
We know it's all a passing phase
-Billy Joel

The cycle described above can be applied to today's economy quite well. It can be easy to focus on today's individual economic statistics too much and lose the overall picture of the economy.

For example, consumer prices in 2008 rose a scant 0.1 percent, even considering oil prices touched $147 per barrel during the year and high gas price fears dominated during the summer. At that time, market pundits were calling on the Chairman of the Fed Ben Bernanke to increase the Fed Funds rate from two percent to possibly three percent by year-end.

Instead, Bernanke and Co. made it clear their primary concern was the slowing economy and that inflationary pressures would abate as economic activity slowed through the remainder of the year. Unfortunately, he was right.

The wild gyrations experienced by such market indicators only highlight their lack of veracity. In fact, many times over the years, market pundits have been highly confident of such statistics only to wake up and find a virtual omelet on their face at 5:30 a.m. PT/8:30 a.m. ET.

Why do such highly paid professionals using such advanced statistical models so often stray far from reality?

The answer, in my opinion, is simple statistics. With so many "economists" providing their opinions, a bell curve of estimates is formed. The average of those estimates should reflect the appropriate group estimate, if only human nature didn't intervene.

Imagine you were one of those lonely economists toiling away in a window office somewhere in Manhattan with a view of several other Wall Streeters toiling away in their offices. How do you get ahead?

Now, imagine that you get, say, 21 out of 28 individual statistics correct - Donovan McNabb should be so lucky! But these 21 "correct" guesses lie around the hump in the distribution of all guesses. Do you get a pat on the back? Likely not, you were in the majority camp, after all.

Instead, one of your colleagues who correctly guessed an outlier gets invited onto the multitude of venerable business news programs to answer the question, "Why are you sooo smart?"

Our take-away is that the trick to being successful in the forecasting business is not necessarily to be right most often, but to be correct when outlying observations arise. Now, here is the fun part.

Every economist understands this fact. Because of that, the distribution of guesses itself becomes skewed from reality. In fact, economists are compensated for making outlandish guesstimates - particularly for the third-tier investment banks. What better way to get free publicity for "Bob and Joe's Investment Bank" than to have your economist call a five-sigma event? Your company name would be plastered on CNBC all day long!

Because of these biases and others, we at SVB Asset Management do not bother with forecasting individual economic releases. Our goal is to protect our clients' funds and at the same time work to earn an above market return. While we do utilize many quantitative methodologies, we believe common sense is still the best guide. Thank goodness Ben Bernanke is in our camp, or else we would have interest rates at three percent today!

Key Developments

The trade deficit recovered to $40.4 billion from $56.7 billion in October, providing the lowest monthly deficit in five years. Lower oil prices, which always have a considerable effect on these figures, contributed to a lower dollar volume of imports, while the ongoing global recession has reduced global trade as would be expected.

Anyone holding out for a retail sector surprise was disappointed as retail sales for December dropped 2.7 percent following a 2.1 percent decline in November and a 3.4 percent drop in October. In addition, news that no credit card receivables were securitized in the fourth quarter implies consumer credit will continue to be restrictive into 2009.

Consumer prices fell 0.7 percent in December, putting the full-year inflation measure at a positive 0.1 percent. This was the smallest move in consumer prices since they fell 0.7 percent in 1954. Even so, market watchers for the most part are not concerned about deflation given all of the economic stimulus already injected into the economy, not to mention the additional measures to come.