DOLEZAL: Timing the equity market can be a mug’s game

Trading frequently to try and chase the market not the best strategy

In an attempt to chase the best-possible portfolio returns, is timing the market a smart approach, or a mug’s game?

Some investors will brag that they sold all equity holdings in May to take advantage of historical summer market slowdowns, and enjoyed success by buying back in October.

Others gloat that they hit a home run buying and selling a stock at “just the right time.” Unfortunately, for most investors, such anecdotes of random and scattered success are most often the exception rather than the rule.

It has, in fact, been conclusively shown over the past 15 years that individual investors who traded frequently in an attempt to chase the market, achieved grossly underperforming results. Some studies indicate that returns averaged less than half those of the simple market index.

Today, rather than trying to beat them, many low-cost Exchange-Traded Fund (ETF) products track the performance of a wide variety of indexes. ETFs in a portfolio can enjoy an annual Management Expense Ratio (MER) as low as 0.07 per cent. The prudent investor is wise to consider these products as a long-term alternative to using market-chasing or market-timing strategies.

In 56 years ending in May 2010, the Standard and Poor/Toronto Stock Exchange composite index has enjoyed 12 distinct bull markets and has suffered through 12 bear markets. It has been, and will remain, impossible to predict either the beginning or the end of these inevitable ups and downs in the broad equity market. Yet that is exactly what an investor is attempting when trying to time the market.

If top bankers and economists can’t agree on the timing of these inevitable market fluctuations, an individual investor’s attempt to do so is more akin to gambling than investing.

In studying these major historical market swings, a compelling fact emerges in favour of remaining invested for the long-term, in a well-diversified quality portfolio, rather than skipping in and out.

Over this 56-year period, the bull markets, with an average duration of 44 months, produced nine months and lost 28 per cent of value. These numbers clearly illustrate the risks of trying to time the market. The long average duration of bull markets would have produced for the investor who remained invested in the index, a compound annual average return of more than 10 per cent.

In 2008/2009, this same index plunged 43 per cent over the nine-month period between July 2008 and March 2009. Many investors panicked and sold all or some of their holdings. Unless they were incredibly lucky and bought when the upturn began, they missed a significant part of the 50-per-cent market increase that occurred in the following 15 months.

When investing in equities, no magic approach exists which guarantees consistent returns. In an attempt to chase opportunities, trading frequently is not the answer. More often than not, such an approach will, over the long term, reduce potential returns.

Peter Dolezal is a retired executive and current financial consultant.

The information in this column is for information purposes only. The suggestions in this column may not be suitable for everyone. Contact an independent financial advisor before making any investment decisions.

 

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