The Importance Of Being There

I can't recall ever once having seen the name of a market timer on Forbes's annual list of the richest people in the world. If it were truly possible to predict corrections, you'd think somebody would have made billions by doing it.

-Peter Lynch

This tale is part of my "Tales to Enrich Your Future"series. Like all the tales, unless otherwise specified, they are hypothetical examples designed to educate the reader on investment principles.

It was late October 2004, and Alex was getting very nervous about his investment portfolio. He was not only concerned about the upcoming elections, but virtually every time he turned on CNBC there was some expert warning about the many dangers facing the stock market. If the gurus were not warning about the dangers of the twin deficits-budget and trade-they were warning about the pending Social Security, Medicare and Medicaid crises, the falling dollar, the Federal Reserve continuing to tighten monetary policy, the ongoing crises in both Iraq and Palestine, and on and on.

While the bull market of 2003 and the modest gains he experienced so far in 2004 had allowed him to recoup some of the losses he had sustained in the bear market of 2000-2002, his portfolio was still down about one-third from its level at the end of 1999. He was very concerned about all the negative talk from the experts and the possibility of another bear market. He decided he would sell his equity investments and wait until the end of the year to see what developed. Surely this was the prudent thing to do. He justified the decision with the thought that "discretion was the better part of valor."

When the uncertainty about the November elections was over, none of the other problems had yet been resolved. In fact, if anything, they had gotten worse as the dollar continued to fall and the violence in the Middle East escalated. Alex was surprised that despite the negativity surrounding the markets, and all the doom and gloom forecasts from the experts, the market experienced a strong rally over the final two months of the year. His decision to try to time the market had cost him dearly. And now he felt paralyzed. What was he to do? Having sold at much lower prices, and the reasons for selling were still present, how could he buy now at much higher prices?

The above tale is, unfortunately, a very common one. In fact, Peter Lynch, legendary manager of the Fidelity Magellan Fund, believed that "far more money has been lost by investors in preparing for corrections, or anticipating corrections, than has been lost in the corrections themselves."This observation resulted in his following a strategy of always being fully invested.

The following quotation comes from the August 27, 1951 weekly staff letter of the investment firm of David L. Babson & Company. "It must be apparent to intelligent investors who if anyone possessed the ability to do so [forecast the immediate trend of stock prices] consistently and accurately he would become a billionaire so quickly he would not find it necessary to sell his stock market guesses to the general public."The year 2004 certainly provided investors (and Alex) with evidence of the wisdom of this statement.

The following table presents the growth of one dollar invested in the S&P 500 Index and four indices-representing the asset classes of small-cap stocks, small value stocks, large-cap value stocks and real estate-for the first 10 months of 2004 and the full period as well.

Growth Of $1

Note how much of the full year's growth occurred in the last two months, or just 17 percent of the full period. In the case of the S&P 500 Index, 73 percent of the growth of each dollar invested occurred in the last two months. For the small-cap, small-cap value and large-cap value indices, the figures were 67 percent, 54 percent and 56 percent, respectively. Even in the case of the REIT index it was 36 percent.

2008 was another year that demonstrated the importance of staying disciplined. At the end of 2007 S&P 500 Index stood at 1,486. At the close on November 20, 2008 it stood at 752, a price-only decline of 49 percent. Over the last six weeks of the year, the S&P 500 Index rose to 891, a gain of almost 19 percent (almost twice the Index's long-term annualized return).

Charles Ellis put it this way: "Investors would do well to learn from deer hunters and fishermen who know the importance of 'being there' and using patient persistence-so they are there when opportunity knocks." The reason Ellis made this statement is because so much of the market's historical returns have come in short bursts-2004 was the norm, not an unusual case. And the evidence is clear that forecasters have been unable to persistently identify these periods with a degree of success that would make the effort worthwhile.

The following is perhaps the most compelling argument against market timing and also that the most prudent strategy is to be a buy-and-hold, passive investor. Using the Center for Research in Security Prices (CRSP) database, out of the 1136 months in the period 1926-August 2020, the returns for the best 112 months (less than 10 percent of the time) averaged 9.5 percent. The returns for the remaining 1,024 months (90 percent of the time) averaged 0 percent per month. In other words, if you were unlucky enough to miss the best 10 percent of the months your return would have been zero. Perhaps it was evidence such as this that convinced Mark Riepe, vice president of research for Charles Schwab, to declare: "It's nearly impossible to accurately identify market bottoms on a regular basis. So, realistically, the best action that a long-term investor can take, based on our study, is to invest at the first possible moment, regardless of the current level of the stock market."Even Fortune, which usually features an article containing advice from some market guru on which direction the market is heading, came to the following conclusion: "Let's say it clearly: No one knows where the market is going-experts or novices, soothsayers or astrologers. That's the simple truth."

The Moral of the Tale

Woody Allen observed that: "Seventy percent of success in life is just showing up."And that is the moral of our story.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Important Disclosure: The opinions expressed by featured authors are their own and may not accurately reflect those of the Buckingham Strategic Wealth®. This article is for general information only and is not intended to serve as specific financial, accounting or tax advice. While reasonable care has been taken to ensure that the information contained herein is factually correct, there are no representations or guarantees as its accuracy or completeness. No strategy assures success or protects against loss. The story about Alex is hypothetical and should not be interpreted as representative of any individuals actual experience. The individual stocks selected in this example are for illustrative purposes only and should not be interrupted as a recommendation