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Probabilities, Not Predictions

Thursday, 2 Apr 2009 | 12:55 PM ET

You don't have to be clairvoyant to beat the market. Over and over again we're told that it's impossible to predict the future, therefore it's impossible to pick a portfolio of stocks that consistently outperforms the S&P 500. I hear this kind of nonsense endlessly, and it's the sort of thing that's always used to dismiss what we do here on Mad Money as mere schtick.

The fact that human beings can't perfectly predict the future does not mean that we can't develop an investing strategy that helps you outperform the averages. Saying it does is a logic fallacy. If A is true, it does not mean that B is true, as well. This is what people who have never managed money and think it's irresponsible to pick stocks say rather than, you know, making an argument based on empirical proof.

Witness a piece by Ben Stein in the The New York Times, "Tell Us The Future. Then Again, Don't." He's making the same claim, although I have to thank him for being friendly to Cramer, if not the show:

"But the fact is that we as humans cannot tell the future. It does not matter whether you are Mr. Cramer or if you are Warren Buffett, an off-the-charts genius on a scale rarely seen. It does not matter if you are Milton Friedman or Paul Samuelson or James Tobin, all Nobel laureates. Human beings cannot tell the future, or at least cannot tell it in any consistent way.

Humans can’t consistently pick the right stocks or call markets, foretell political or geopolitical events or successfully predict changes in interest rates or commodity prices."

I have no beef with Ben Stein. I don't have a problem with the people who make this argument. But they fundamentally mischaracterize what Jim Cramer, and just about anyone else who gives investment advice, actually does. He seems to think that our goal is to tell people what's going to happen.

I can see how someone would be confused about this, how you might think that a person who gives advice about stocks for a living was a professional prognosticator, but that's wrong. Cramer doesn't come out every night and make predictions. That's not what we do.

Ultimately, we're trying to help you construct a diversified portfolio of stocks that will outperform the market, regardless of what happens. That's why we constantly tell you to buy some gold when prices are on the way down, either Eldorado, Agnico-Eagle or the SPDR Gold Shares – the ETF that tracks gold prices, as insurance against inflation or economic chaos. That way you'll have something in your portfolio that goes up if everything else goes down.

We don't deal in predictions, we deal in probabilities. That's why we tell you never to buy or sell all at once because it's pure arrogance to assume that you can call a perfect top or a perfect bottom. Instead we tell you to buy a little and then wait, because we know we're fallible.

When we recommend stocks, it's not because we are absolutely sure they'll go higher. It's because we believe it's likely that they'll go higher. For example, in last Thursday's Sell Block Jim recommended buying Bank of New York and State Street , two custodial banks, on any weakness following Obama's meeting with the CEOs of the big banks. Our thesis was that these banks stood to gain the most from a relaxation in accounting rules. We didn't know for sure that the rule change would happen, and we never said as much. But we thought it was likely – and we were right.

Of course, we're not clairvoyant. But that doesn't mean that making predictions about the market is the same as a monkey with a dartboard. When you have someone like Cramer who's watched the market for 30 years, maybe that person has better insights about what's likely to happen to stocks than someone who has less experience. The people who claim that it's impossible to pick stocks well are also claiming that picking stocks is basically the only part of human life where experience doesn't make you better. How does that make any sense?




Cliff Mason is the Senior Writer of CNBC's Mad Money w/Jim Cramer, and has been that program's primary writer, in cooperation with and under the supervision of Jim Cramer, since he began at CNBC as an intern during the summer of 2005. Mason was the author of a column at TheStreet.com during 2007, which he describes as "hilarious, if short-lived." He graduated from Harvard College in 2007. It was at Harvard that Mason learned to multi-task, mastering the art of seeming to pay attention to professors while writing scripts for Mad Money. Mason has co-written two books with Jim Cramer: Jim Cramer's Mad Money: Watch TV, Get Richand Stay Mad For Life: Get Rich, Stay Rich (Make Your Kids Even Richer). He is 100% responsible for any parts of either book that you did not like.

Mason has also had a fruitful relationship with Jim Cramer as his nephew for the last 23 years and will hopefully continue to hold that position for many more as long as he doesn't do anything to get himself kicked out of the family.




Questions for Cramer? madmoney@cnbc.com

Questions, comments, suggestions for the Mad Money website? madcap@cnbc.com

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