Trying to ‘time the market’ means considering when to make an investment during bull markets and attempting to sell before or during down periods to possibly reduce losses.
If you’re investing for the long-term, it may be better to invest and continually add to positions – each month or at set time intervals – as opposed to trying to time the market. A buy and hold strategy has produced an average annual return of 10.3% between 1957 and the end of 2020 for the S&P 500, according to data by DQYDJ. This return assumes dividend reinvestment.
The US stock market has historically risen much of the time, which means trying to time it may not be such a good idea. According to Morningstar, between 1926 and 2019, the stock market rose 100% of the time over a 15-year period and rose 87% of the time over a five-year period. Stocks prices rose on a yearly basis 73% of the time.
Simply investing and holding a diversified basket of stocks or index funds for a long period of time tends to produce a profit. When trying to time the market through buying and selling, the above statistics no longer apply, and it is quite possible investors could do worse.
Bear markets are generally short-lived, whereas bull markets tend to last much longer. By investing in and out of the stock market, it is quite possible to miss part of the good times since they occur more often. If the best month of the year is missed, returns for a given year are generally cut dramatically. Since most investors are unlikely to know what month of the year will be the best, it pays to stay invested. Not being invested during the good months could be more detrimental to long-term returns than trying to avoid the fewer down months.
Essentially, the market moves higher more often than it moves down. This means, for most investors, if they exit the market, they are more likely to miss out on profit, as opposed to avoiding a loss.
It may not be in every investor’s interest to try to time the market. The exception would be if an investor has a tested method/strategy that has outperformed buy-and-hold. They must not only know the strategy but have the conviction, time, and discipline to implement the strategy the entire time they are investing. As discussed above, even missing out on a few good periods (which occur more often than drops) will reduce performance.
As investors, there is always a risk when making financial decisions, as we can’t be sure that past performance will be indicative of future performance.