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CFOs Are Bad at Forecasting, and Don't Realize They Are Bad

(p. 5) . . . , three financial economists -- Itzhak Ben-David of Ohio State University and John R. Graham and Campbell R. Harvey of Duke -- found that chief financial officers of major American corporations are not very good at forecasting the future. The authors' investigation used a quarterly survey of C.F.O.'s that Duke has been running since 2001. Among other things, the C.F.O.'s were asked about their expectations for the return of the Standard & Poor's 500-stock index for the next year -- both their best guess and their 80 percent confidence limit. This means that in the example above, there would be a 10 percent chance that the return would be higher than the upper bound, and a 10 percent chance that it would be less than the lower one.

It turns out that C.F.O.'s, as a group, display terrible calibration. The actual market return over the next year fell between their 80 percent confidence limits only a third of the time, so these executives weren't particularly good at forecasting the stock market. In fact, their predictions were negatively correlated with actual returns. For example, in the survey conducted on Feb. 26, 2009, the C.F.O.'s made their most pessimistic predictions, expecting a market return of just 2.0 percent, with a lower bound of minus 10.2 percent. In fact, the market soared 42.6 percent over the next year.

It may be neither troubling nor surprising that C.F.O.'s can't accurately predict the stock market's path. If they could, they'd be running hedge funds and making billions. What is troubling, though, is that as a group, many of these executives apparently don't realize that they lack forecasting ability. And, just as important, they don't seem to be aware of how volatile the market can be, even in "normal" times.

For the full commentary, see:

RICHARD H. THALER: "Economic View; Often Wrong, But Never in Doubt." The New York Times, SundayBusiness Section (Sun., August 22, 2010): 5.

(Note: ellipses added.)

(Note: the online version of the article is dated August 21, 2010 and has the somewhat shorter title "Economic View; The Overconfidence Problem in Forecasting.")

The Ben-David et al article is:

Ben-David, Itzhak, John R. Graham, and Campbell Harvey. "Managerial Miscalibration." Fisher College of Business Working Paper No.2010-03-012, July 2010.

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