Just Say No to Market Timing
In this note we will examine how a market timing strategy can backfire.
Market Timing The Pandemic
During calendar year 2019 the S&P 500 Index returned 31.4%. What would we have done on January 1 of 2020 if someone had provided us with the following information about the upcoming year:
The world would be faced with the worst global pandemic since the 1918/19 Flu Pandemic
The virus would be so contagious that governments around the world would shut down businesses that were not considered essential
Offices would close and would still mostly be closed at year end
Entire sectors would become unemployed
The Pandemic would be spreading faster on the last day of the year than it was during the spring wave
After just realizing an extraordinary 2019 with stock market gains of over 31% it seems reasonable that some would want to sell their stock investments and hope for a better entry point in the future. Of course, to do this you have to know when to buy back in.
The S&P 500 finished 2020 with total returns of 18.4%. Selling would have been a mistake.
Market Timing And The Election
We received a few calls in September and October with worries about the ramifications for the stock market given the upcoming presidential election. The callers weren't clients, they were still working and enquiring if they should go to cash (Stable). After all, they'd be able to buy back in after the big sell-off. The general consensus of the callers followed this path:
Biden might win
His policies are bad
Stocks will go down
We can buy back cheaper
Based on this should stocks be sold?
The answer is always no! The market is well aware of the fact that there is an election every four years, it is not a surprise. The probabilities of each candidate winning and the fair value of the market under their Presidency should already be reflected in current prices. For example, lets say Candidate A has a 50% chance to win and the S&P is worth 3600 on October 1 under his upcoming presidency. Candidate B also has a 50% chance to win and the market is worth 3200 under his presidency. The probability adjusted fair value of the market then is 3400. Importantly, 3400 isn't the fair value under either candidate, but it is the probability adjusted fair value.
If you're buying or selling based on which candidate will win, you're implicitly stating that you either know the election probabilities or the fair value of the market under each candidate (or both) better than the entire market consensus. A pretty bold statement.
In early November Joe Biden won the election. During the month of November the S&P 500 increased 10.9%, contrary to the negative Bided thesis outlined above. Global stocks, measured by the ACWI Index increased 12.6%, the highest monthly return for global stocks since the 1980's. Did the market shoot higher because of the Biden win? No! There are many factors that drive stock returns on a daily or monthly basis and they can almost never be quantified, regardless of the narratives proposed. Positioning a portfolio because of the upcoming election was flawed from the beginning.
Conclusion
Market timing is a fools errand. You can be wrong because of poor analysis or by being unlucky. If we were forewarned about the 2020 global pandemic ahead of time it seems reasonable that we may have sold stocks. This would have been a market timing mistake. In real life the market timing mistake was highlighted by the massive global stock market gains in November 2020 - for investors that had a downside thesis if Biden was elected. This is a good reminder that excellent businesses, strong management teams, and innovative US workers drive wealth creation in markets, not Presidents. Investors are much better off maintaining a diversified portfolio that fits their own personalized risk-tolerance with a focus on limiting drawdowns, than trying to time markets. This is what we do at Brave Eagle Wealth Management. Those that aren't retired yet are better off maintaining a diversified portfolio and sticking to the plan, rather than trying to jump in and out of the market. Just say no to market timing.
