The Folly of Market Timing
If you want to make money in the stock market, you have to be in—all the time.
Market timing for fun and profit! Now that sounds good, right? Who wouldn’t want to have fun while making a profit? In the investment world, that’s the siren song of the market timer. They ask the obvious question, “Why would you want to invest in the market when it’s going down?” Of course no one would.
As a consequence, there is an overwhelming temptation to follow the guru who promises to help you avoid bear markets by trying to ride market updrafts and avoid drops. That approach of beating the market is an overwhelming temptation for many investors.
A simple analysis of market history would show that if you called the market correctly every year you’d be rich. If you were correct in calling the market even half the time, your return wouldn’t be too bad, either. Given those odds, why wouldn’t you give market timing a shot?
Sign up for Kiplinger’s Free E-Newsletters
Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.
Profit and prosper with the best of expert advice - straight to your e-mail.
The problem is that, as in many cases, simple statistics can be very misleading—like the stories of the man who drowned in a lake with an average depth of 3 feet, or the man who thought he’d be comfortable with his head in an oven and his rear in the refrigerator.
Assuming returns based on the concept of flipping a coin can be very misleading. What matters is the actual annual sequence of returns. Remember, a market timer has to be right twice – when to get out AND when to get back in. Consider the following example:
The timer correctly called the bull markets in years 1 and 2 but missed the first bad market in year 3. He then redeemed himself by calling the serious bear markets in years 4 and 5, avoiding a 35% loss. Unfortunately, while waiting for confirmation that the market had turned, he missed the dramatic bull markets in years 6 and 7 (remember, you have to decide when to get back in as well as when to get out). The result: Patient investor, 4.6% annual return; Timer, 3.9%.
How likely is it that this will happen to a market timer? Over time, it’s just about guaranteed. Consider the grand recession. From November ‘07 to March ‘09, the market fell 46.7%. The subsequent one-year return was 53.6%!
Still not convinced? If I asked you to name the top 10 artists of all time or the top 10 baseball players or the top 10 presidents, we’d all have our own list and happily debate our choices. Now, let me ask you, name the top 10 market timers of all time? Having trouble? How about the top 5? Still stuck? How about the top 1? I’m sure you’re still having trouble.
My point is, if anyone had successfully timed the market over an extended period of time we would know his or her name as they would be one of the richest people in the world. The fact that we don’t know any names should be a warning sign not to chase the illusion of market timing.
Research has shown that when you factor in transaction costs you would have to be correct almost 70% of the time. And that assumes instantaneous switching from stock to cash and back. The real world doesn't work that way. If you factor in a time delay for switching to look for a market “confirmation,” you would have to be correct almost all of the time to beat the buy-and-manage alternative.
The moral? If you want to make money in the market, you have to be in the market – all of the time.
Harold Evensky, CFP is Chairman of Evensky & Katz, a fee-only wealth management firm and Professor of Practice at Texas Tech University. He holds degrees from Cornell University. Evensky served on the national IAFP Board, Chair of the TIAA-CREF Institute Advisor Board, Chair of the CFP Board of Governors and the International CFP Council. Evensky is author of The New Wealth Management and co-editor of The Investment Think Tank and Retirement Income Redesigned.
Harold Evensky, CFP® is Chairman of Evensky & Katz, a fee-only investment advisory firm and Professor of Practice in the Personal Financial Planning Department at Texas Tech University. Evensky served as Chair of the TIAA-CREF Institute Advisor Board, Chair of the CFP Board of Governors and the International CFP Council. He is on the advisory board of the Journal of Retirement Planning and is the Research Columnist for Journal of Financial Planning. Evensky is co-author of The New Wealth Management and co-editor of The Investment Think Tank and Retirement Income Redesigned. Mr. Evensky has received numerous awards over the years. The most recent is Investment Advisor Magazine, 2015 IA 35 for 35 recognizing the advisor advocates, investors, politicians and thought leaders have stood out over the past 35 years and will influence financial services for decades to come. Don Phillips of Morningstar called Mr. Evensky the dean of financial planning in America.
-
Use An iPhone? You May Be Hearing From A Class-Action Lawsuit Group
A handful of suits against the iPhone maker seek to crack down on everything from app store purchases to messaging.
By Keerthi Vedantam Published
-
Capital One/Discover: What's In Their Wallet For You?
Push back on Capital One's planned merger with Discover is growing with one group of consumer advocates calling for a public hearing.
By Keerthi Vedantam Published
-
Should You Enroll in Medicare if You Still Have a Job?
This question is being asked more than ever these days, so here’s what you can do when it comes to making Medicare decisions while you’re still working.
By Jae W. Oh Published
-
Stock Market Today: Dow Outperforms as Merck Hits New High
The S&P 500 and Dow Jones Industrial Average snapped three-day losing streaks as drugmaker Merck rallied.
By Karee Venema Published
-
Three Big Ways That Life Insurance Can Be a Lifeline
Life insurance not only provides a safety net for loved ones and leaves behind a lasting legacy, but the cash value can also help during financial hardship.
By Steve Sugumele Published
-
Romance Scams That Target Older Adults Rising: What to Do
Here are some tips to help you avoid falling for a scam, especially when a scammer tries to prey on your affection.
By Patrick M. Simasko, J.D. Published
-
Lessons Learned From Britney Spears’ Financial Conservatorship
The pop star’s recent memoir reveals the toll her involuntary conservatorship took on her and spotlights the drawbacks of these legal arrangements.
By Stacy Francis, CFP®, CDFA®, CES™ Published
-
Stock Market Today: S&P 500, Dow Extend Losing Streaks
Reddit stock continued to charge higher and has now nearly doubled in price since last week's IPO.
By Karee Venema Published
-
Four Things to Know About Managing a Loved One’s Finances
Figuring out when it’s time and knowing how to talk about it are just the start. You also need info about estate plans, insurance and health care decisions.
By Tony Drake, CFP®, Investment Advisor Representative Published
-
Three Tax-Smart Strategies for Real Estate Investing
Opportunity zones, Delaware statutory trusts and real estate income funds can help investors maximize gains and mitigate taxes.
By Dwight Kay Published