It’s tempting to try and time the market. After all, if you can predict when the market is going to go up or down, you can make a lot of money! Unfortunately, this is not something that Is feasible to do on a consistent basis and many studies have concluded that trying to time the market can actually be very harmful to your investment portfolio. In this blog post, we will discuss why it is better to invest for the long term and avoid the urge to ‘do something’ during times of volatility.
While it is nearly impossible to predict short-term market swings, in general and over long periods of time, the market has historically trended up. If we look at the data, history tells us that the US market (SP 500) is up about 75% of the time, and down about 25% of the time.
For example, the chart below looks at bull and bear markets in the United States (measured by the S&P 500 index) from 1926 – 2012:
A simple analogy is to think of the stock market like a casino. For example, imagine playing a game where you only win 25% of the time (pulling out or trying to “time the market”), vs being the house and winning 75% of the time. This is precisely how we approach investing because statistically, you should come out ahead by weathering short-term volatility and staying invested.
A study by DALBAR, a financial research firm, has shown how the general temptation for investors to try to time the stock market often results in the investor diving into the market at the top and fleeing at the bottom. For example, the chart below shows how market cycles influence inflow and outflows as investors react to volatility.
The following chart monetizes this mistake. If you had $100k invested over this 20-year period in the S&P 500, your ending balance would be $484,696, but the average equity investor investing in the same thing only ended at $229,891 in the same period and same starting investment because they tried to time in and out of the market.
In order to time the market, you have to be right twice-
The following study demonstrates how risky this strategy can be for your portfolio. For example, if you have already sold out and you are waiting to buy back into the market, you could miss out on the market’s top-performing days. The following chart shows a hypothetical investment of $100k in the S&P 500 index from 2000 – 2019. As you can see, an individual who remained invested for the entire time period would have accumulated $324,019, while an investor who missed just five of the top-performing days (out of the 20-year period) would have accumulated only $214,950.
While successfully timing the market can lead to big gains in your portfolio, studies have shown that this is very difficult to do on a consistent basis over the life of a portfolio. The reality is, if you are in your working years, it is likely that you will see several downturns before you reach retirement and begin taking distributions. Rather than selling out of the market altogether during volatility, it is important to stick to a sound investment philosophy and stay disciplined to ensure your finances (and your portfolio) are working for you and supporting your life by design. If you have a sound investment mix and financial plan, you should never have to live life based on what the market is doing (or isn’t doing for that matter).
Here is a video resource from EWA describing the benefits of long-term investing: https://vimeo.com/manage/videos/658692896
Additional information on EWA’s investment philosophy can be found here: https://ewa-llc.com/blog/principles-to-follow-for-maximizing-your-investment-strategy/
Equilibrium Wealth Advisors is a registered investment advisor. The contents of this article are for educational purposes only and do not represent investment advice.
Stock markets are volatile, and the prices of equity securities fluctuate based on changes in a company’s financial condition and overall market and economic conditions. Although common stocks have historically generated higher average total returns than fixed-income securities over the long-term, common stocks also have experienced significantly more volatility in those returns and, in certain periods, have significantly underperformed relative to fixed-income securities. An adverse event, such as an unfavorable earnings report, may depress the value of a particular common stock held by the Fund. A common stock may also decline due to factors which affect a particular industry or industries, such as labor shortages or increased production costs and competitive conditions within an industry. For dividend-paying stocks, dividends are not guaranteed and may decrease without notice.
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