By Marjorie L. Rand, CPA, CFP®, RICP®
In the past year, the financial markets have experienced many fluctuations, which may have led you to think about timing the market to avoid potential losses. You may have sold your investments early on and are now waiting for the right opportunity to reinvest; or perhaps you have a significant amount of cash on hand and are hoping to make a strategic purchase at the perfect time.
However, while timing the market may seem like a promising approach, it is generally not a reliable investment strategy. In this article, I’ll explore three reasons why market timing may not be effective and suggest alternative strategies you may find more beneficial.
Market Timing Is Consistently Inconsistent
Timing the market usually involves attempting to “buy low and sell high” by analyzing current market trends for inefficiencies or volatility indicators. This strategy may work sometimes, but it is far from perfect. Not only do you have to guess when to buy in, but you then have to guess when to sell. That means for every gain, you have to be right twice to make timing the market worth it. Unfortunately, market bottoms can only be truly spotted in hindsight, and timing the market is often closer to playing the lottery than it is to an educated guess.
Timing the Market Is Expensive
Timing the market can also be expensive. Depending on your account type, asset class, and where you are executing your trades, you will likely be charged for every purchase and sale you make, and that’s on top of any taxes owed on gains. The more frequently you trade, the higher your transaction costs will be.
If you held the assets for less than a year, your gain will be taxed as ordinary income at your marginal tax rate, which can be as high as 37% for high-income earners. Long-term gains are taxed at a preferential rate. Regardless of your tax rate, your market timing must still be right more often than not just to cover the cost of your guess.
You Will Miss Out on Compound Growth & Market Rebounds
A recent study by Schwab Center for Financial Research found that bad market timing is worse than investing immediately, regardless of the market conditions at the time of investing. This indicates that even in market downturns, or just before a downturn, investors who invest immediately and remain invested will be better off than those who stay on the sidelines or attempt to time the market.
Take a look at Schwab’s graph below, which shows just how much more a fully invested portfolio earns over the course of 19 years. It would earn approximately $14,000 more in growth than a portfolio with bad market timing, and $91,000 more than a portfolio that stays in cash. The only investor who performs better is the one with perfect timing—but since we already know that perfect timing is impossible, investing immediately is the next best strategy.
What’s more, over time that extra $14,000 or $91,000 will have the opportunity to grow even more thanks to compounded interest. Even if the market fluctuates in the short term, the odds are high that a solid investment strategy will grow over time.
Another graph by Hartford Funds and Morningstar shows what happens if you miss the best days in the market, which often closely follow a major downturn and can be just as difficult to predict. An investor who missed the 10 best days in the market between 1992 and 2021 would have earned 54% less than someone who was fully invested during the same time period.
Someone who missed the 30 best market days would have earned a whopping $172,000 (83%) less than their fully invested counterpart. The research is based on a $10,000 initial investment, but these numbers would be much more dramatic if you were dealing with a $100,000 or even a $1,000,000 portfolio.
The time value of money tells us that a dollar today is worth more than a dollar tomorrow, and this is certainly the case when it comes to investing. The longer you are invested, the more likely you are to ride out the day-to-day market fluctuations and experience growth instead.
Are You Missing Out on Opportunities for Growth?
It’s essential to avoid missing out on potential financial growth by trying to time the market prematurely. At Rand Financial Planning, we don’t believe in “timing the markets” because we know that it is impossible to consistently succeed at this endeavor. We work hard with our clients to develop a customized financial plan that includes building a well-diversified portfolio that minimizes investment risk in recessions and periods of inflation. The hardest part about investing is controlling emotions in difficult economic times. Rash decisions do have long-term consequences. One of the most valuable things we do for our clients is to help them remain calm in the storms. If you need help navigating these turbulent times, please don’t hesitate to contact me at 908-895-2406 or email@example.com or schedule a 20-minute introductory call. I’m here to assist you in making informed decisions and pursuing your financial goals with confidence.
Marjorie Rand is founder and financial advisor at Rand Financial Planning, a comprehensive, fee-only, fiduciary financial planning firm. Marge specializes in helping her clients plan for a secure retirement and navigate life’s many transitions through customized, tax-efficient retirement planning. She is passionate about empowering her clients to make the best financial decisions for their life and being by their side no matter what life throws at them. Marjorie spent many years as a CPA before founding Rand Financial Planning so she could be a go-to source for all her clients’ financial needs and help them avoid costly mistakes. She has a bachelor’s degree in accounting from Rutgers University and a Master of Science in Taxation from Fairleigh Dickinson University, along with the Retirement Income Certified Professional® (RICP®) and CERTIFIED FINANCIAL PLANNER™ certifications. When she’s not working, Marge enjoys boating, horseback riding, traveling, and hiking with her husband and her dog, Rangeley. To learn more about Marjorie, connect with her on LinkedIn.