Markets moved against forecasters in 2012, as investors and even the largest banks failed to anticipate the effect government actions would have.
The year Wall Street made the wrong calls
From John Paulson's prediction of a collapse in Europe to Morgan Stanley's warning that US stocks would decline, Wall Street got little right in its prognosis for last year.
Mr Paulson, who manages US$19 billion (Dh69.79bn) in hedge funds, said the euro would fall apart and bet against the region's debt. Morgan Stanley predicted the Standard & Poor's 500 Index would lose 7 per cent and Credit Suisse foresaw wider swings in equity prices.
All of them were proved wrong last year and investors would have done better listening to the Goldman Sachs chief executive, Lloyd Blankfein, who said the real risk was being too pessimistic.
The ill-timed advice shows that even the largest banks and most-successful investors failed to anticipate how government actions would influence markets.
Unprecedented central-bank stimulus in the United States and Europe sparked a 16 per cent gain in the S&P 500 including dividends, led to a 23 per cent drop in the Chicago Board Options Exchange Volatility Index, paid investors in Greek debt 78 per cent and gave Treasuries a 2.2 per cent return even after Warren Buffett called bonds "dangerous".
"They paid too much attention to the fear du jour," Jeffrey Saut, the chief investment strategist at Raymond James & Associates in St Petersburg, Florida, said. "They were worrying about a dysfunctional government in the US. They were worried about the euro quake and the implosion of Greece and Portugal. Instead of looking at what's going on around them, they were letting these macro events cause fear to creep into the equation."
The market value of global equities increased by about $6.5 trillion last year as the MSCI All-Country World Index returned 17 per cent including dividends. The Bank of America Merrill Lynch Global Broad Market Sovereign Plus Index of government debt returned 4.5 per cent. The MSCI gauge of stocks in developed and emerging markets rose 0.3 per cent to 347.68 yesterday.
While Bank of America Merrill Lynch indexes show Treasuries of all maturities returned an average of 2.2 per cent last year, including reinvested interest, an investor who bought what was then the benchmark 10-year note - the 2 per cent security due in November 2021 - would have gained 4.01 per cent after taxes, according to data compiled by Bloomberg.
Money managers who aim to beat markets lagged behind instead. The Bloomberg Global Aggregate Hedge Fund Index, which tracks average performance in the $2.19tn industry, increased 1.6 per cent last year through November.
More than 65 per cent of mutual funds benchmarked to the S&P 500 trailed the gauge, data compiled by Bloomberg shows.
The 50 stocks in the S&P 500 with the lowest analyst ratings at the end of 2011 posted an average return of 23 per cent, outperforming the index by 7 percentage points, the data shows.
Mr Blankfein was more prescient: "I tend to be a little more positive than what I'm hearing from other people. One of the big risks that people have to contemplate is that things go right."
While markets moved against forecasters last year, their predictions may eventually prove correct.
Ten-year Treasury yields have climbed 0.51 of a percentage point from a July low to 1.90 per cent, while the so-called VIX index of volatility is up 2.8 per cent from last year's nadir.
Greece's economy will contract by 4 per cent this year, the IMF predicted in October, as euro membership prevents the country from boosting exports with a weaker currency.
Citigroup economists led by Willem Buiter in London said in February the possibility Greece would leave the euro within 18 months had increased to 50 per cent from between 25 and 30 per cent. They raised the risk to 75 per cent in May and by July were citing a 90 per cent chance of departure, writing in a report that their "assumption" was an exit by this month.
Greek bonds surged the most worldwide and the country stayed in the euro as the European Central Bank pledged a bigger rescue effort, the German chancellor Angela Merkel softened her stance on aid and the prime minister Antonis Samaras delivered on austerity commitments in Athens.
Money managers who bet against the conviction of European leaders to hold together the 17-nation currency union missed out on some of the best investment opportunities as the euro strengthened about 9.4 per cent from a July 24 low against the dollar.
Adam Parker, the US equity strategist at New York-based Morgan Stanley, predicted the S&P 500 would fall 7.2 per cent to 1,167 last year as the US presidential election, slower growth in China and Europe's debt crisis deterred investors.
Stocks rose as Federal Reserve decisions to keep benchmark interest rates at record lows while buying more than $80bn a month of mortgages and Treasuries boosted confidence in the economy.
The average forecast of 12 strategists tracked by Bloomberg called for the S&P 500 to increase about 7 per cent last year to 1,344. It reached 1,426.19, surpassing the year-end prediction by the most since 2003, data compiled by Bloomberg shows.
Mr Parker said he underestimated the impact of central bank stimulus and investors' willingness to pay more for stocks. "We were wrong on our year-end outlook for 2012 mostly because of our view on the multiple," Mr Parker wrote in a report during October.
"The spectre of nearly unlimited intervention from the ECB and the Fed seems to have created a more positive asymmetry than we anticipated."
* Bloomberg News