The problems of market timing came vividly to our attention recently. We were shown the portfolio of someone that was actively involved with their investments and reads a lot about investing strategies. This person managed their retirement portfolio quite actively, often making substantial changes to their account. When the stock market began to drop in August, they watched the value of their account decline. (See chart below)
This person had about 80% of their account in stock funds up until Friday, August 21st. On that day the decline got to him and he sold all the stock funds. It turns out that this person sold out of stocks within two trading days of the market bottom. By the time they came to see us, their account was mostly in bonds.
Referring again to the chart, notice that as of October 28th the market actually had a positive return year to date. By trying to time the market, this investor locked in a loss and was wondering what to do now.
This investor made two mistakes. First, they thought they could time that market and get out when things were bad and buy back in when things were better. Timing the market is a term that is used when people buy or sell based on market gyrations, often trying to get in when they think it’s at a low point and get out when they think it’s at a high point. Some people get lucky and may do it once or twice but it’s simply not possible to do this consistently. The second mistake was that they had created portfolios that were out of line with their personal risk tolerance – they started out much too heavily in stocks and then swung too far in a conservative direction when the stock market went down and is now too heavily invested in bonds.
Most people will look at the value of their investments only occasionally. Some will do it daily; it is like a game to them. It’s also counter-productive. The secret to long-term investing success is to create a portfolio that is properly aligned with your personal risk tolerance and financial goals, so that you don’t have to get concerned with every market move. .
Not every stock market recovery is as V-shaped as the one illustrated in this chart. However, it’s a great illustration of the opportunities that are missed by trying to guess short term market moves. We believe in prudent investing for the long term and design portfolios that reflect the risk tolerance of our clients. If you are interested in a free consultation of your portfolio, contact us.