Cloudy Crystal Ball

Peter Drucker learned early on the perils of making predictions, when, as a trainee in the European branch of a Wall Street firm, he helped his boss with a book that set out “to prove ‘conclusively’ that buying American common stock was the one absolutely foolproof way to get rich quick.” The book was published two days before the 1929 stock market crash.

Such a story is probably scant comfort to investors who watched today as the Dow Jones Industrial Average fell 634 points in the first session of trading since Standard and Poor’s last week downgraded the U.S. government’s credit rating.

But S&P, it should be noted, hasn’t been any better at predicting the future than Drucker’s old boss. “In fact, the evidence from the past five years suggests that it may be worthwhile to adopt a contrarian investing strategy that specifically bets against S&P’s ratings,” Nate Silver asserted in his FiveThirtyEight blog in the New York Times.

Actually, Drucker himself was famously prescient, often anticipating things before most others did: the Hitler-Stalin pact, the rise of Japan’s economy after World War II, the shift from manufacturing to knowledge work, the fall of the Berlin Wall. But Drucker always stressed that he didn’t actually predict, and he rejected the notion that he was “a futurist”; he simply read the patterns already there.

“We must start out with the premise that forecasting is not a respectable human activity and not worthwhile beyond the shortest of periods,” Drucker wrote in Management: Tasks, Responsibilities, Practices.

The predictions that amount to conventional wisdom, he added, are often the most incorrect of all. “Most people can imagine only what they have already seen,” Drucker wrote in Managing for Results. “If, therefore, a forecast meets with widespread acceptance, it is quite likely that it does not forecast the future, but, in effect, reports on the recent past.”

This seems to be exactly the trap that S&P has fallen into. “S&P ratings tend to lag, rather than lead, the market,” Silver explained, citing a mountain of evidence to back up his position. “That is, in cases where the market’s view of default risk is misaligned with S&P’s, S&P is a good bet to change their rating to catch up to market perception.”

What do you think: Did S&P make the right call in downgrading U.S. debt—or was it shortsightedly reporting on the recent past?