When was the last time you hit a home run?
Welcome to the first in a series on market basics. Many of you know I’m more of a football fan than a baseball fan. However spring is in the air so I couldn’t help but be drawn to a baseball analogy to illustrate a timely point.
Market Timing, It Just Doesn’t Work!
It’s time in the market… not timing the market that builds wealth.
What do I mean by market timing… well trying to determine the best time to get in or get out. You have heard the old saying: buy low and sell high. That’s what every investor wants to do but few succeed with any consistency. There are even a lot of professional money managers who get it wrong. When it comes to the market, clients routinely want to know when the best time to get in is. Others want to know when they should take profits off the table and sit it out. Understanding human behavior is one of the fundamental basics about investing. I’m not really a psychologist but I occasionally play one on TV.
It’s much like baseball! Every batter wants to hit a home run but few do. In fact if you believe everything you read in the press many professional ball players who have reputations as home run hitters have been doing it with the help of performance “enhancements”. It’s the same with money managers. Many market professionals rely on “enhancements” in the form of technology and research that includes studying lots of charts and graphs. This is their business and they spend hours and hours researching past trends and hoping to spot indicators that help them anticipate future market movements. A few become stars and enjoy celebrity-like success, most don’t. The average investor doesn’t have the time, the knowledge or the desire to do this, at least not consistently.
Back to baseball…. If you have been one of the lucky ones that has hit a home run or two… just think back to that moment. How many times since have you tried to repeat that performance? You wear your lucky rabbit’s foot; repeat that magic windup; settle into your favorite stance; hope the wind is just right; listen to the roar of the crowd; and wait… and wait… for the perfect pitch. Here it comes; your stomach tightens; you swing; you connect; … but oops it’s a foul ball.
A lot of investors have similar experiences. They make one good investment decision, buying low and selling high. Then they think this is easy… anyone can do it. They try and try again and end up losing lots of money in the process. Take a look at the current market; we have enjoyed a number of weeks of record-setting highs. Despite the rally, historically this is a period where investors have traditionally gotten cold feet and pulled back, yet the rally continues and they miss the biggest upside.
Certainly we have been burned by market crashes and extended periods of volatility in recent years. The memories or scars are still very vivid. No one wants to see the value of their portfolio drop like it did in 2008 or 2009. That was not a fun ride for any of us. However I would add that most investors got caught up in the previous market rallies and were inappropriately invested. What do I mean by that? Investors historically have not listened to their inner voice and have failed to figure out their true tolerance for risk. You don’t know how you will react until it happens. Therefore most people have historically taken on more risk than they think and have been shocked when their portfolio experiences sustained volatility.
The definition of risk tolerance from Investopedia:
The degree of variability in investment returns that an individual is willing to withstand. Risk tolerance is an important component in investing. An individual should have a realistic understanding of his or her ability and willingness to stomach large swings in the value of his or her investments. Investors who take on too much risk may panic and sell at the wrong time.
Today’s investor faces a huge dilemma. With historically low-interest rates traditional fixed income investments have experienced little to no growth. Yet investors have long-term goals that require capital growth. The challenge is to know how much to allocate to growth investments that might result in the market volatility we have experienced in the past. Unfortunately there is no crystal ball. What we do know is that the market has historically had a positive trend over time despite hiccups along the way. We have no reason to expect that this trend won’t continue.
This may surprise you:
During the 20-year period ended December 31, 2011*
The S&P index returned 7.8%
The average equity investor’s annualized return was 3.5%
This is a direct result of human behavior, which we will talk more about in a later post. Stay tuned for more in our series on market basics. I will look to address some concepts that may be old hat to some but Greek to others such as dollar cost averaging, diversification, asset allocation and asset classes. We hear these concepts talked about but what do they actually mean?
* This study is for illustrative purposes only. Indexes cannot be invested in directly, are unmanaged and do not incur management fees, costs and expenses. Past performance does not guarantee future results.
Stay tuned for more on this as well as our 2013 Get $ Fit Challenge for March!
If you have a challenge you want to share or have a financial topic you want to learn more about email me at [email protected] or call me at 704-658-1040.