“How would you react if your house was priced every day and the quotes listed in the local newspaper? Would you panic and move if you lost 2 percent of your home’s value because a neighbor didn’t mow his lawn? Would you rejoice and sell if it went up 5 percent in one day because another neighbor finally painted his house?”
Those are rhetorical questions, of course, from Christopher Browne’s “The Little Book of Value Investing.” But they point to the foolish things we sometimes do when we invest in the stock market.
In chapter 17, Browne set out to challenge the widespread idea of timing the markets. As he pointed out, we are always awash in books and websites that promise to tell us how to pick tops and bottoms: “They use voluminous studies, ancient mathematical ratios, and even astrology to determine when stocks are ready to advance or are in danger of falling.”
Yet, in 35 years of investing, the author had never found “a short-term timing strategy that worked.” It’s true some did work for a while and made their inventors famous—for a while. Inevitably, though, the public loses interest after losing on too many timing calls and moves on to the next shiny thing. In his words, “I simply do not believe there is a way to accurately and consistently time short-term market movements, and again, the research of scholars seems to bear me out.”
For example, between 80% and 90% of gains occurred from just 2% to 7% of the time the market was open. Among his research examples was one from Sanford Bernstein & Co. that found the best returns in the best 60 months between 1926 and 1993 (60 months is 7% of the years between 1926 and 1993) averaged 11%. The rest of the months, the 93%, each produced returns averaging only 1/100 of a percent.
Put another way, you have to be in the market full time to catch the 7% of the time when big gains occur. Browne wrote, “As a long-term investor, the real danger and threat to your nest egg is being out of the market when the big moves occur.” You simply have to wait 93% of the time.
Could you accurately and consistently identify the 7% of the time when the gains occur? Many promoters promise to take you there, but you end up disappointed. That’s because:
- Short-term timing is a failure.
- You need to be fully invested nearly all the time to catch the big move.
While many timing methods appear to have promise, too many unforeseen events churn their strategies into dust. Few promoters and investors predicted the 2008 financial crisis, though many were growing increasingly suspicious. Great natural disasters and geopolitical events make fools of the best timing hopes.
Then, there’s the problem of getting in and out at the right time, as Browne reported on a comment made by the iconic mutual fund manager Peter Lynch. Under his stewardship, the Magellan Fund had averaged 29.2% per year between 1977 and 1990, making it the world’s best-performing mutual fund.
Yet, Lynch said that more than half the investors in his fund lost money. How do you lose money with a fund doing that well? According to Lynch, it was because investors would rush into it after a couple of hot quarters and then rush out again after a couple of disappointing quarters. Market timing helped them literally snatch defeat from the jaws of victory.
The same phenomenon was identified in another survey; it found that $10,000 invested in the S&P 500 index fund would have grown to $94,555 in 20 years—that’s an average of 11.9% per year. However, the average investor would only end up with $21,422 after 20 years, an average of just 3.9% per year, because they were not in the market at the right time. They jumped out when the market headed down, expecting it to decline indefinitely; as a result, they missed the best part of the rebounds.
William Sharpe, a Nobel prize winner, found in his research that market timers need to be correct 82% of the time to just match buy-and-hold investors. Other researchers reported that the risks of market timing are twice as great as the rewards.
Further, you don’t have to be out of the market for many days to miss the best returns. American Century Investments looked into the matter and found that $10,000 invested in 1990 would have grown to $51,354 by 2005, but:
- If you missed the 10 best days during those 15 years, your return would drop to $31,994.
- If you missed the 30 best days (that’s one in 180 months), your original investment would be worth only $15,730.
- Missing the best 50 days would leave you in the red: Only $9,030 of your original $10,000 would still belong to you.
Browne wound up chapter 17 with these words:
“The evidence is clear. It is pretty close to impossible to consistently make money market timing, and you are better off investing for the long term, riding out the bumps. Value investors have the extra security of knowing that they own stocks that have one or more of the characteristics of long-term winners and that they have paid careful attention to investing with a margin of safety.”
Read more here:
- Â Christopher Browne: Finding Value Away From Home
- Christopher Browne: 16 Questions
- Christopher Browne: What Is the Earnings Potential of This Stock?
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