Author: Bob Greenhalgh, BComm, CIM, CFP® – Certified Financial Planner®
Many investors have now become used to the high levels of stock market volatility that we have experienced over the last ten years with headlines and “tweets” causing large swings upwards or downwards. Some investors however, rather than sticking with their strategic asset allocation, are trying to catch the upswings and miss the downswings through market timing.
Market timing, as defined by Investopedia, is a trading or investing strategy involving moving in and out of a financial market or switching asset classes (i.e. stocks vs. bonds) based on predictive methods. Although perfect market timing can theoretically work to achieve higher returns, in reality this is almost impossible to accomplish and getting it wrong can be very costly to the investor.
Recently, a study was conducted in regards to investing the same amount of money in the S&P 500 (the index tracking the US stock market) on the best day of each year (lowest cost) compared with the worst day of each year (highest cost) over the last 30 years. This study showed that the best day investment strategy would only yield an average annual rate of return that was better by less than 1% (9.68% vs 8.69%.). Additionally, the chances of having gotten it perfectly right (or wrong) were infinitesimally small.
Another study, published in 2016 by the Boston research firm Dalbar, has shown that between 1995 and 2014 investors in the S&P 500 would have earned an average annual rate of return of 9.85%. If, however, they had missed only 10 of the best days in that twenty-year period by not being invested on those days, then their return would have instead been only 5.1%.
A third study shows that missing the best days of market performance can cost the investor significantly as the table below shows:
The lesson to be learned here is that it is very difficult, if not impossible, to perfectly time the market. Getting it wrong and missing the best days of market performance can be very costly to investors. This is why we recommend staying the course. Even through periods of higher market volatility, stick with your agreed upon strategic asset allocation (as long as it still matches with your financial goals) rather than trying to time the market.
Connect Wealth is an independent financial planning firm that offers holistic advice to clients based on their current goals and future aspirations. We use well-established workflows and cutting edge technology to maximize financial efficiencies while simplifying the process for clients. Learn how you can maximize your financial opportunities at www.connectwealth.ca.