The age-old question…is it ‘time in or timing’ the market that creates wealth?
The investment industry will tell you — repeatedly — that the answer is ‘time in’.
To paraphrase Mandy Rice, ‘they would say that, wouldn’t they?’
The industry earns its living from funds under management. The longer those funds are under their management, the better it is for their cash flow.
But is it in your best interest?
In hindsight, would an investor have been better to ‘time’ their exit from the market in late 1928 — a year before the 1929 crash — or opt for the ‘time in’ approach?
Had they chosen the industry’s preferred method, they needed to wait more two decades for the market to make their dollar whole again.
The ‘time in’ approach has gained traction because we’ve been in the most extraordinary period in the market’s history.
Never before has there been a bullish market cycle that’s flown so high for so long as this one. Since 1982, the Dow has risen 25-fold (from 1000 points to 25000 points)…it’s simply without precedent. The two drivers behind this exceptional performance have been…
- The massive increase in global debt…all that borrowed money had to go somewhere.
- PE expansion…an increase in the multiple paid for a dollar of earnings.
Recent stock market wobbles might be suggesting the extremes of these expansionary factors are being reached.
And that brings us to ‘timing’ the market. Is this the solution?
When to jump into the market?
Perfect timing is impossible. No one knows when the inherent instability in an overpriced market will be exposed. The higher a market rises — on artificial earnings and higher PE multiples — the more dangerous it becomes.
While mathematics and history warn you to exit a market well before it reaches the danger zone, rarely do people apply logic at the time of peak greed. It’s all about emotion.
The ‘bigger fool’ theory kicks in and it makes it impossible to identify how overpriced an already overpriced market can become. You sit and watch in wonder.
That’s my definition of timing…exiting early and watching the madness of men while knowing my capital is secure in the bank.
Adopting this ‘timing’ approach requires equal doses of patience and belief.
You must also reaffirm to yourself that the rationale for your decision is based on the philosophy, ‘it’s about the return OF capital, not the return ON capital’.
That’s especially true in these times of next-to-nothing interest rates.
Last week I received the following email from a reader…
‘I have read your book regarding the next big Stock Market Crash. I have a question regarding converting everything into cash as you suggested. If I convert my shares into cash right now I would lose the benefits I have tax wise with regard dividends and then I would be paying tax on my interest on the cash I have in the banks. If the next crash is 1 or 2 years down the track it doesn’t make sense to convert everything into cash at this time. Would appreciate your thoughts on this.’
I agree, if (and that’s a huge if) the next crash is one or two years away, then stay the distance and reap the rewards.
But who says it’s one or two years away? It could be next week or next month or even next decade. No one knows.
All we know, and with a great deal of certainty, is that the US share market is not cheap…by any stretch of the imagination.
Personally, I’d rather pay some tax on my earnings (and keep my capital intact) as opposed to exposing my money to what I think will be one of the biggest crashes in the market’s history.
What’s the answer to ‘time in or timing’?
A bit of both.
A staged entry when markets are cheap and a staged exit when they are expensive COMBINED with an abundance of discipline and patience.
This is an edited extract, of my thoughts on this approach, from my latest book How Much Bull Can Investors Bear?
‘Myth #2: It’s time in the market, not timing the market
‘This great little play on words is a favourite gem of the industry.
‘Time in the market — stay the distance and your patience will be rewarded.
‘That’s music to the fund management industry’s ears…investors who never leave their products. The rivers of gold — the fees earned as a percentage of funds under management (FUM) — just keep flowing.
‘Is that which is good for the industry good for you, as well?
‘The answer is…perhaps.
‘While that may seem vague, it’s because markets are rarely ever straightforward. Markets are bi-polar — periods on an extended high and periods on an extended low.
‘When markets are in the positive trend — a Secular Bull market — you want to stay the distance. Sit back and let the market take your capital higher.
‘Here’s the chart on the S&P 500 index secular markets (1900–2015) from Chapter 3.
‘The triple–digit returns in the green areas (Secular Bull markets) sure beat the “negative to barley any” returns produced during the market’s red areas (Secular Bear markets).
‘Another rhetorical question: Tell me which period you’d prefer to spend time in the market and which period you’d like to spend time out of the market?
‘Why would you want to sit through the agonising grind of a Secular Bear market spending years correcting the overvaluation of the preceding Secular Bull market?
‘Remember the trend? Look at the squiggly blue line on the bottom of the chart.
‘Secular Bull markets start with a low P/E and end with a high P/E.
‘Secular Bear markets start with a high P/E and end with a low P/E.
‘By now you’ll appreciate my investment approach is deliberately simple. When assets do not represent value — when the risk is greater than the reward — you should stay out, or transfer to cash.
‘When assets do offer an attractive risk versus reward equation, invest on a gradual (dollar cost average) basis into index funds.
‘Moving in and out of asset classes — buying low and selling high — is contrary to the “buy and hold” mantra from the investment industry. The fund management industry has a vested interest in keeping your funds under their control for as long as possible — preferably for the remainder of your life.
‘While your money remains in their funds, they get to clip the ticket for 1–2% per year…irrespective of performance.
‘The greatest Secular Bull market in history began in 1982. This was perfect timing for the fledgling investment industry. The industry’s marketing gurus point to performance data since 1980 to support the case of “shares for the long term”.
‘However, a look at the history of markets shows that extended periods of outperformance (Secular Bull markets) are followed by extended periods of underperformance (Secular Bear markets).
‘Therefore, timing is critical. The absolute worst time to invest is towards the end of a Secular Bull market. The herd is so conditioned (after decades of over performance) to believe the “shares for the long term” message.
‘Prices are subsequently pushed to extreme levels. The “bigger fool theory” applies at the end of a Secular Bull market.
‘It’s for this reason that you need to make investment decisions anchored by long–term valuation metrics. Referencing where we might be in the cyclical trend — high, to low, to high — helps take the emotion out of the situation.
‘Timing does matter. The data is conclusive.
- Buy high = future low returns
- Buy low = future high returns
‘In case there is any mistake in what I mean by timing, you can never, ever time the entry into (or exit from) the market perfectly.
‘What I mean by timing is recognising when markets are heading into overvalued or undervalued territory.
‘In both cases you employ a dollar-cost averaging strategy — gradually sell out of (in the case of overvaluation) or buy into (in the case of undervaluation) the market.’
While waiting — for however long or short it takes for the inevitable bust to happen — I am reassured that history and physics are on my side.
Where markets are concerned…what goes up must come down AND the higher it goes the harder it falls.
We are on the cusp of a historic collapse and when it happens, paying tax will be the least of people’s concerns.
It’ll all be about ‘what’s happening to my capital?’
While panicked investors are ‘timing’ their exit at the bottom of the market, the cashed-up buyer will be staging their entry into the market.
Editor, The Gowdie Letter
PS: If you’d like to find out more about How Much Bull Can Investors Bear, including how to order a copy, click here.