Anyone who invests in the market usually has one goal: Build the biggest balance possible by buying low and selling high. But some people try to do that by “timing the market.”
What does that even mean?
Basically, it’s moving in and out of the stock market with the intention of minimizing losses and buying investments when they’re on the rise to eventually sell at a premium, says Ben Barzideh, wealth advisor at Piershale Financial Group in Crystal Lake, Ill. “Instead of holding onto an asset long-term, [you’re] buying and selling based on predicting future market movements.”
So, does it work?
Not often. Because without a crystal ball, it’s hard to actually do that successfully. Which is why most people who try usually lose. In fact, Barzideh says he’s never seen an amateur investor effectively time the market over a long-term period.
On top of the difficulty of trying to predict where stock prices will go when we can’t see the future, timing the market is tough because we’re often influenced by our emotions when deciding what—and when—to buy and sell. “Most people panic when the market drops, and they may sell for a loss,” Barzideh says. “Subsequently, the investment recovers and starts going up again, then the investor buys it back at a much higher price than the sale.”
That’s selling low and buying high—the exact opposite of what we’re all trying to do.
What’s a better strategy?
Over the long run, it’s generally more profitable to build a diversified portfolio of stocks and bonds that’s designed to weather market movements. In other words, it’s better to ride out the ups and downs—not to try and predict them.
“The buy-and-hold strategy and a diversified portfolio shelters you from mis-timing the market because you are always invested and…always have exposure to various asset classes,” Barzideh says. “Over the long-term, all asset classes generally go up—it’s just that they often go up at different times.”
Okay, so build a portfolio, then never touch it again?
Actually, there are times when we should “rebalance” our portfolio, but it’s not because of daily market movements. It’s something we should do every six to 12 months to maintain our “target asset allocation and protect against portfolio drift,” Barzideh says.
Portfolio drift? Let’s say we create a portfolio of 70 percent stocks and 30 percent bonds. Then after six to 12 months of strong stock performance, the split ends up closer to 85 percent stocks, 15 percent bonds. Assuming our financial goals and timeline are the same, we may want to adjust our holdings (e.g. selling shares of stocks and buying more bonds) to return to the original mix.
Similarly, we might discover in an annual check-in that market movements left us over-invested in one particular stock or sector. In that case, rebalancing can help us achieve better diversification, which can protect us from sudden market swings in the future.
January 10, 2017