Author: Tim Courtney
trade war, recent selloffs and several earnings disappointments, there
has been an undeniable bout of market volatility lately. In the face of
this instability, it is only natural for investors to want to exit
their positions. However, while this strategy is tempting, there is
reason to believe it’s better for investors to weather the storm.
At Exencial, we conducted a market timing study dating back to March 2009 proving this to be true and recently updated our findings through June 30, 2019.
While the market has largely been in a state of expansion since the start of our study, we experienced several declines worth examining. Based on our findings, there were 25 instances where the market declined more than 4 percent, averaging about two and a half declines per year, which is relatively quiet compared to historical data.1 We have also experienced six drops greater than 10 percent, averaging about one every year and a half which is in line with what history shows.
In our study, we analyzed these drops to discern whether investors would be better off exiting the market during notable downturns or holding onto their positions. In so doing, we constructed a hypothetical strategy that looked very attractive on paper, but ultimately, was not realistic or feasible.
The strategy goes like this: Whenever the market declines, we would exit in time to only experience half of the drop. For example, in a decline of 4 percent, we would exit in time to only lose 2 percent. We wouldn’t have to time the market perfectly, but early enough to preserve half of our gains. From that bottom, re-entry also wouldn’t have to be perfect, but we would have to reinvest within 10 trading days of the trough.2
If this strategy was employed, investors would have seen a return of 114 percent since March of 2009. While this sounds attractive, it pales in comparison to the return of 211 percent that would have resulted from investing in the S&P 500 during the same time period. Additionally, the 114 percent return does not factor in trading costs and taxes, meaning performance would have been even worse.
In our findings, the hold strategy beat the timing strategy in 20 out of the 25 declines, meaning the timing strategy prevailed only five times. Even during those five times, however, we still believe investors would have been better off staying in the market as the precision required to execute this strategy perfectly is not humanly achievable. Additionally, while timing strategies provide lower risk, they ultimately yield lower returns.
Although it is certainly tempting to get swayed by headlines, it’s important that we as investors look beyond the noise. That said, we should always be monitoring our portfolios to ensure they are accurately representing our long-term goals and objectives and reallocate accordingly. In times of volatility especially, in lieu of timing, we advise investors to consider paring back some of their equities into cash or bonds. Overall, we believe this is a much wiser and well-founded tactic than trying to time to markets.
Should you have any questions about revisiting your portfolio allocations, please reach out to your Exencial advisor.
1. Yahoo! Finance – S&P 500
2. Investopedia – Trough
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