In a previous article, I discussed the cost of waiting to invest for retirement. Once you made the decision to invest, it is important to decide on an investment strategy.
Two common investment strategies are called “buy and hold” and “market timing”. A buy and hold strategy is just what it sounds like. You buy shares and hold onto them no matter whether the stock market is going up or down. Market timing is a more complicated strategy. You have to anticipate the best times to get in and out of the market.
One of the most common questions that I get as a financial advisor has to do with market timing. People seem to think that financial advisors have some investment ouija board that will let us know exactly when you should get in and get out of an investment to maximize your return. Unfortunately, if you think timing the market is a sound investment strategy, you may need to think again.
To illustrate this point, the following is a chart from Putnum Investments that shows that missing the best days in the stock market significantly hurt total returns.
Over the course of 15 years, (5,475 days) only missing the best 30 days yields a negative return. If you adjust the returns for inflation, it takes even less days to yield a negative return.
Obviously, missing the worst days in the market over an extended period of time will help increase returns. However, there is no sure fire way of determining when the market will bottom out. Therefore, it is important to not miss the best days in the market over a long period due to the potential cost of market timing.