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Market Timing: A Bad Alternative

Matt BuckleyOctober 5, 2018

Markets

Market timing generally refers to approaches that seek to outperform a traditional static asset allocation by switching back and forth between asset classes. It’s a short-term strategy, in which the investor tries to benefit by switching into investments that appear to be beginning an uptrend, and switching out of investments that seem to be starting a downtrend. Trying to buy and sell based on future price movements sounds great in theory, but it is very difficult to achieve over the long run. Take for example a few notable events to illustrate how tough it can be:

  • As late as September 2001, 16 analysts had buy ratings on Enron. The stock tumbled from $90 a share to 6.2 cents on December 31st, 2001 after one of the largest corporate scandals in history.
  • Jim Cramer, the host of “Mad Money” on CNBC, responded to a viewer’s concern over Bear Stearns on March 11th, 2008. The former hedge fund manager and TV personality offered this advice, word for word: “No! No! No! Bear Stearns is not in trouble. If anything, they’re more likely to be taken over. Don’t move your money from Bear.” On March 14th, Bear Stearns stock fell 92% on news of a Fed bailout and $2-a-share takeover by JPMorgan.

Here are 3 more reasons why it’s smart to avoid timing the market:

  1. You have to be right twice: Investing has two sides… buying and selling. In order to successfully time the market, you must buy at the precise moment that the market has reached the bottom, and then sell at the precise moment the market reaches the top.
  1. It can cost more than you make: Market timing prompts an investor to be active. The more active you are, the more you will pay in costs. Every time you make a trade, you will incur fees with the cost of making that trade. Tax consequences must also be considered and, if ignored, any returns you make will be diminished by a tax bill.
  1. Your focus is on reward, not risk: Investors who attempt to time the market are chasing big rewards. A focus on winning doesn’t prepare you for a loss if things go south, and they often do. Higher risk doesn’t guarantee higher returns, but It does mean a higher chance of losing money.

Perhaps the most significant deterrent to market timing is the cost of being out of the market. As measured by the S&P 500, during a 10-year period from October 2004 – September 2014, studies show that those who remained invested for the entire period achieved higher returns than those who tried to time the market, and missed out on top performance months. An investor who stayed fully invested during these 10 years would have earned 8.10% vs. -0.62% acquired by anyone who tried to time the market, thus missing the best 12 months over this period.

Things you should do instead of timing the market:

  1. Disciplined approach: Time in the market, not timing the market builds wealth. Having a long-term investment strategy helps provide focus and ensures emotions are held at check. At HFA, we take a balanced portfolio approach that plans for both bull and bear markets, enabling you to stay invested.
  1. Regular rebalancing: Rebalancing enables discipline in terms of selling a portion of your winners and putting that money back into underperforming asset classes. Rebalancing also smooths investment returns. It forces you to “sell high” and “buy low”. By maintaining your allocation, you keep your risk at a level where you’re most comfortable.
  1. Dollar-Cost averaging: Dollar-cost averaging means putting a set amount of money in investments every month over a specific period of time. This lowers your average cost per share, because it allows you to buy more shares when prices are lower, and buy fewer shares when prices are higher. The beauty of dollar-cost averaging is, you don’t have to figure out when to get in and out of the market.

For those seeking the highest probability of a successful investment experience, maintaining a consistent allocation strategy is likely to be the best choice.  Diversification of your portfolio across asset classes is also a key factor to earn optimum returns. HFA places great importance on proper asset allocation and a well-thought out portfolio construction process. We are convinced that this is the most efficient path to achieve your investment goals.  

As always, contact our office with any comments or questions.  We are happy to help.

Sources:

Beyond Your Hammock Article – June 2017
MSN Article – March 2016
Jarred Bunch Article – January 2017
Investors Group Whitepaper
BarclayHedge Article – February 2012
Morgan Stanley Article