Successful investing - Market timing

Successful investing is really hard. Reaching your investment goal is not an easy task this is because financial markets are complicated and can be unpredictable. Building and protecting what you’ve earned is critical to achieving your investment goals, but it is impossible to time the market perfectly. Incorrectly timing the market can come with a high cost.

1) Spend time in the market not trying to time the market

Staying invested in the market over the longer term usually gives the best returns. Markets do fluctuate over time and thus it might be very tempting to buy and sell investments continually to chase short term gains. Although you might make some gains, this strategy rarely helps you to achieve you long term investment goals.

It is a well-known fact that investing gives rise to a variety of emotions depending on how the market is going. In order to succeed, we need to be aware of how our emotions may impact investment actions.


As we can see from the below image, investors experience a range of emotion during different periods of a market cycle. Most of the time, this may result in entering or exiting the market at the wrong time.

                       

As markets peak, we may all fell exited and be tempted to increase our exposure in the market. In the majority of thecases, this is the worst time to do so as markets are mostly overvalued at this point. On the other hand, when markets fall sharply, investors panic and our emotions pressure us to exit the market even if we would suffer a huge loss.

2) Missing the best day


Timing the market has a lot of risks but the biggest one would be the risk of missing out. One can exit the market to reduce risk in a down trending market but can end up missing the best recovery days. What this means is that by selling off when the market has reached a bottom, you will most probably miss out the best of the upside.

In the bar chart below, we illustrate the effect of missing out on some of the best days of performance during a 36-year investment period using an initial investment of $10,000 in the US markets. As we can see, if we kept all our capital invested, we would have gained over 5000% (i.e. a profit of $502,477).

If we had missed just the best 5 days during all those years, our profit would have declined to $321,795 (i.e. a difference of $180,682). The situation would be much worse have we missed 50 of the best days during the period. Our profit would be worth only $21,613 and therefore we would have missed out a profit of $480,684.

 

Bottom line

Short-term volatility can be nerve-wracking. But, trying to avoid being invested on the bad days and catching only the good days requires making two decisions correctly:

1. knowing when to get out of the market, and
2. knowing when to get back into the market.

They’re both difficult calls to make. It takes skill, scale and discipline to successfully navigate today’s increasingly complex markets. Rather than reacting to volatility and trying to time short-term market moves, we believe the wisest investors are the ones who spend the time up front to create a good long-term strategy, and then have the discipline to stay in the market when necessary, even if it feels uncomfortable.

 

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