Behavioral Finance

Anchors Away

By, 04/10/2007

The streak is over. (No, we're not talking about Sanjaya's improbable run on American Idol. That's very much alive.) The consecutive streak of double-digit operating earnings for the S&P 500 that began in the second quarter of 2002 ended in the fourth quarter of 2006 with a year over year gain of 8.9%.

Most economists have taken this as hard evidence the economy is headed for a significant slowdown and/or recession. Analysts have revised their expectations downward.

Companies Face Lowest Earnings Growth in 5 Years
Matt Krantz, USA Today
http://www.usatoday.com/money/markets/2007-04-09-earn-usat_N.htm

We disagree. Earnings around the globe continue to show strength. Worrying about "double-digit" growth is a classic example of anchoring bias, where investors "anchor" results to arbitrary metrics even if the numbers have little or no relevance to the estimate.

Humans are animals of perspective. Naturally, we see things from our own point of view—everything is subjective. That's precisely why we must treat investing as a science because it allows us a framework for overcoming subjectivity to interpret data without inherent biases.

Objectively, double-digit growth of 10% is very close to single-digit growth of 8.9%, particularly with fickle and erratic things like quarterly earnings. Being dour on earnings just because it didn't achieve a meaningless metric is crazy.

Yes, growth in earnings of S&P 500 companies have slowed a bit, but if you drop the double-digit anchor, it's easy to see that earnings are well in line or above historical averages; and globally earnings are surging. Anyway, a lot of the slowdown is probably attributable to a slowdown in Energy earnings growth, whose record profitability of past years makes it difficult to maintain such high hurdles.

So far, global economic data has been quite perky this quarter, and, if anything, continued strong earnings growth is the likely scenario.

Today's worries over earnings is precisely the type of investment opportunity you should love: there's a big gap between psychological expectations and objective reality due to anchoring bias. Pull the bias anchor up, open the sail, and stay bullish.

*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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