Market Timing; Buy, Sell, or Hold
By Conner W. Mays
The majority of my posts have been focused on specific stocks, basic ways to evaluate them, understanding Wall Street lingo, and other general information about the market, but what about the market as a whole? I wanted to shift my focus due to a few conversations I have had over the past few days.
Yesterday, April 24th, 2017, the NASDAQ closed above 6,000 for the first time in history, just over two years ago, on March 2nd, 2015 the NASDAQ closed above 5,000, a level that hadn’t been reached since 2000. The first time the NASDAQ hit 5,000 was during the “Dot-com Bubble” a period when the NNASDAQ composite, which is made up of many technology companies, went from 1,000 in 1995 up to 5,000 in just five years. You may be thinking to yourself how much money you could have made if you timed these moves perfectly, and you would have been able to. However, the overwhelming majority of investors are not able to time market perfectly.
This conversation is relevant today because markets have been setting records for months now, and as we have learned the hard way, the party can’t go on forever. If you don’t get anything else out of this article, I want you to remember these next two sentences. The most dangerous sentence on Wall Street is – “This time, it’s different!” especially when referring to how high the valuation of an asset or a sector can go.
It’s true that there are indicators or signals that can provide clues that the market as a whole may be overvalued and you should sell, as well as undervalued, suggesting you should buy. However, these signals are an imperfect science, they are not guarantees that if an indicator reaches a value of x, the market will change its course on the next trading day.
As I have discussed in previous articles, the best strategy to create wealth is to buy assets that are fundamentally sound and hold them for the long term. There is a great deal rhetoric around the source of long term returns, and most of it is true, aloo of it has one thing in common, buy & hold. To demonstrate this idea, take a look at the chart below:
From 1970 through February of 2016, if you missed out on the best 25 days of returns, out of a total of 11,620 days your average annual return would be just 3.4% vs. an annual average return of 6.7% or a total return of 371% vs. 1,910% if you held the stock for each and every one of the 11,620 days. To put that in perspective, T-Bills (government securities which are considered riskless investments) returned 4.9%. In the chart above it is easy to see the opportunity cost of not being in the market on those 25 best days. The key point here is that the 25 best days tend to occur near the 25 worst days, remember – volatility moves in both directions. When volatility picks up and the markets are plummeting, fear takes over and many of us will sell at the low levels but if you are able to persevere through the periods of volatility your investments will usually recover their value, the losses are just on paper until you sell, then the losses hit you in the wallet. For example, let’s take a look at the most recent time of market turmoil, The Great Financial Crisis of 2008.
My point here is simple. Selling based on fear, or buying because you are suffering from the feeling you are missing out on returns (or as my wife would say FOMO) is rarely, actually never a good idea. If you are ever in a situation without a fundamental reason to act, but you aren’t sure what you should do, and if you are an investor you will have these feelings, the best choice is to do nothing, and hold on for the long term. It isn’t an easy choice – but it is the correct one.
It’s time in the market, not timing the market
A Random Walk Down Wall Street
Firstly, A Random Walk Down Wall Street by Burton Malkiel is a great book to read if you are just getting into the world of investments or if you’re a hedge fund manager.
Stock market returns are mathematically considered a random walk. A random walk is he process by which randomly-moving objects wander away from where their origin, along no discernable pattern or trend. Okay, great Conner… so what does that mean? It means there is no mathematical model, pattern, secret formula that will tell you where the market will be a day, week, month, quarter, year, decade or century from now. Wall Street strategists get paid a great deal of money to manage extremely complex models and employ a lot of incredibly intelligent people to try and forecast where the market is headed, and they are wrong more often than not. Moving your hard earned money in and out of the market based on your forecast (AKA guess) of where the market is headed isn’t only risky; likely to put you at a disadvantage when you include transaction costs and the tax rate on short term capital gains, which is higher than long term capital gains.
Once again, if you ask me, your best bet is to find companies you believe in, know everything you can about them, buy their stock and hold it for the long run.
If you have any questions / comments or general topics you would like me to discuss please let me know. Shoot me an e-mail at firstname.lastname@example.org
Thanks for reading!
I wrote this article myself, it expresses my own personal beliefs and opinions.
Long-term stock returns chart and related information sourced from MarketWatch.com