Timing is Not Everything

The financial industry analyst firm Dalbar has been tracking investor returns for more than 30 years.  Their studies take into consideration general investor cash inflows and outflows into equities over time and its effect on performance.  In their annual Quantitative Analysis of Investor Behavior at the end of 2013, the average return for an ordinary investor was determined to be only 3.69% percent annually over the last 30-years in their equity fund investments. During that same 30-year period, the S&P 500 has returned 11.11% on an annualized basis.  If it is any consolation, investors did beat inflation as measured by the consumer price index of 2.83% for that same time period.

Why does this happen?  Dalbar’s studies show the folly in investors’ decisions.  Time after time they make emotional choices on not only when to buy and sell, but also what to buy and sell.  Investors subject themselves to decisions based on their fears, “gut”, media hype, cocktail party talk and overconfidence.

Because of these rash decisions, investors are horrible at timing the market.  A look at the chart below from the Investment Company Institute (ICI) shows exactly why.  Investors continued to flood the market with new money throughout 2004-07 when markets were on a bull run and immediately pulled money out of equities at the bottom in 2008-09.  They have continued to sell as the stock market has come back, until only recently in 2013, began to truly buy equities again.

www.icifactbook.org/fb_ch2.html (8/14/2014)

Could this be why many are calling this the most “hated” bull market in history?  From the end of March of 2009 to June of 2014, the S&P 500 is up a total return of 198% and fund inflows show that investors have been selling most of the time.  Those who have tried to market time potentially have missed the run, but those with diligence and persistence have persevered to reap the benefits.

That being said, one can understand why people’s emotions have caused them to sell along the way.  There have been a litany of reasons why one could have been driven to do so.  During a little more than five years, we’ve seen an economic crisis in Europe, multiple geopolitical issues in the Middle East and Africa, a period of unprecedented action from Central Banks, budgetary crisis in Washington, nuclear meltdown in Japan, and a sharp credit crisis. Humans are hard-wired to respond to crisis, but one’s investments may be the worst place to respond to them.

This brings us to our recent pullback in the markets.  Was the market due for a correction?  Maybe it was?  Was it due to correct by 19% in the third quarter of 2011(I bet you forgot about that one already)?  Perhaps?

During the 30-year period that Dalbar did their study on investor equity returns, the S&P 500 corrected at one point in a calendar year by more than 9% in 18 of the 30 years.  At all of those points, I am sure there were reasons we could have seen bigger drops.  However, the person that didn’t panic at those points banked their 11.11% average annual return that was had over those 30-years.

It’s hard to advocate never selling any equities as many of us will someday need the proceeds in retirement or for other various reasons.  However, the time to sell equities is when things have appreciated relative to other assets, and not at times of panic and pullback.  This is done through a rebalancing process that is pre-determined, disciplined, mathematical and methodical.  Rebalancing should never be done on based on hunches and knee-jerk reactions.

Pullbacks are going to happen, it’s part of the price of admission for taking on higher risk inherent in equities to generate earn higher rates of return.  History shows us, those are rewarded more by accepting these pullbacks rather than responding.  So, when our emotions and predispositions tell us to “do something”, sometimes the best action may be no action!

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