The market has been volatile! Wouldn’t it be great if you weren’t in the market when it goes down and were in the market when it goes up?!
Imagine if you could to miss the worst days of the market. From 1995 to 2014 the S&P 500 annualized return was 9.85%. If you were able to miss the 40 days with the biggest losses your annualized return would have been 22.19%!
This is the temptation of market timing. Just look at the chart below:
Here’s the problem – no one has been able to successfully and consistently time the market. Not surprising that no one has been able to predict the future! The problem with market timing is you have to be correct twice for it to work. You have to know when to be out of the market AND when to get back in. So what would happen if you missed the best days of the market. Take a look at the chart below:
With market timing, not only do you need to miss the worst days, you also can’t miss the best days! Here is another telling chart. Dalbar, one of the nation’s leading financial market research firms, studied average investor return between 1995 and 2014. They found that the S&P 500 annualized at 9.9% and the average investor only 2.5%, barely above inflation. Here is the chart:
So why is that? How come the average investor (or more likely their actively managing broker) performs so poorly? A lot has to do with market timing. Many investors try to buy low, sell high, but in reality the exact opposite occurs. The chart to the right shows (the grey line) the S&P 500 from 1996 to 2006. The Green and Red columns show the net flow of money in and out of the market. If it is green that means people are buying into the market and if it is red, they are selling.
Notice that the exact opposite of buy low, sell high occurs! In 2000, right before the dot com crash, was the highest level of inflows to the market! And then right after the crash at a market low, was the highest outflows! What this chart shows is that in reality investors buy high and sell low. That explains the 2.4% average annual return.
So what about today, with all this market volatility. Brexit, the election year, oil prices…
“This too shall pass!”
The market will always have volatility, and historically, that risk has paid off for investors (as long as they are invested). Below is a chart of major events that caused a market downturn along with the months it took to market improvement.
So, with all this volatility – this too shall pass. Volatility can always be nerve wracking, it is never enjoyable, but it is “normal.”