Do you ever find yourself chatting about a hot stock or investment at a summer barbeque or social gathering? A certain stock is discussed on the news, leading people to wonder if now is the time to buy it.
The lure of getting in at the right time or avoiding the next downturn may tempt even disciplined, long-term investors. But the reality of successfully timing markets isn’t as straightforward as it sounds.
Outguessing the Market is Difficult
Attempting to buy individual stocks or make tactical asset allocation changes at exactly the “right” time presents investors with substantial challenges.
First and foremost, markets are fiercely competitive and adept at processing information. During 2018, a daily average of $462.8 billion in equity trading took place around the world. The combined effect of all this buying and selling is that available information, from economic data to investor preferences and so on, is quickly incorporated into market prices. Trying to time the market based on an article from this morning’s newspaper or a segment from financial television? It’s likely that information is already reflected in prices by the time an investor can react to it.
A recent study by Dimensional Fund Advisors of the performance of actively managed mutual funds found that even professional investors have difficulty beating the market. Over the last 20 years, 77% of equity funds and 92% of fixed income funds failed to survive and outperform their benchmarks after costs.
Further complicating matters, for investors to have a shot at successfully timing the market, they must make the call to buy or sell stocks correctly not just once, but twice. Professor Robert Merton, a Nobel laureate, expalined it well in a recent interview with Dimensional:
“Timing markets is the dream of everybody. Suppose I could verify that I’m a .700 hitter in calling market turns. That’s pretty good; you’d hire me right away. But to be a good market timer, you’ve got to do it twice. What if the chances of me getting it right were independent each time? They’re not. But if they were, that’s 0.7 times 0.7. That’s less than 50-50. So, market timing is horribly difficult to do.”
Time and the Market
The S&P 500 Index has logged an incredible decade. Should this result impact investors’ allocations to equities?
Exhibit 1 suggests that new market highs have not been a harbinger of negative returns to come. The S&P 500 went on to provide positive average annualized returns over one, three, and five years following new market highs.
Focus on What You Can Control
It’s quite difficult to outguess the markets. While favorable timing is theoretically possible, there isn’t much evidence that it can be done reliably, even by professional investors. The positive news is that investors don’t need to be able to time markets to have a good investment experience. Over time, capital markets have rewarded investors who have taken a long-term perspective and remained disciplined in the face of short-term noise.
By focusing on what they can control (like having an appropriate asset allocation, diversification, and managing expenses, turnover, and taxes), investors can better position themselves to make the most of what capital markets have to offer.
Do you have questions about your portfolio? Contact an advisor at Fi3 today.
While this article addresses generally held investment philosophies of Fi3 Advisors, it does not represent a specific investment recommendation for any individual client or prospective client. Please consult with your advisor, attorney and accountant, as appropriate, regarding specific advice. Information has been obtained from a variety of sources believed to be reliable but not independently verified. Past performance does not indicate future performance.