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Why market timing drives investment success

- August 16, 2021 5 MIN READ
Why market timing is so important

The concept of market timing seems simple, but so many people get caught up in the hype and end up getting it wrong.

What is market timing?

Market timing involves choosing the very best time to invest money. Like Marty McFly in Back to the Future, it would be great to know in advance when the price of an investment was going to be highest or lowest. You could then buy and sell with ease to maximise your profit.

Unfortunately, none of us have the benefit of a DeLorean time travel machine. Instead, sophisticated investors, advisers, and fund management teams use complex financial models. These factor in things like economic conditions, activity, investment market conditions, and general forecasts and predictions about financial markets to make ‘informed’ decisions that assist in timing the market.

Market timing is often a shorter term investment strategy. This is due to the fact that market conditions change over time, which can impact the suitability of the investment you are trying to ‘time’.

The thing with market timing is that it actually sounds simple. You figure out what is happening in the world or financial markets and its impact on the stuff you want to invest in. Then you set up your investment strategy and off you go!

But so many people get caught up in the hype and then end up getting their market timing wrong.

Advantages of market timing

If you can successfully ‘time the market’, it will mean you would know when an investment is ‘cheap’.  You could also avoid purchasing investments when their values are high. This can be a powerful way to make money, if you’re able to consistently get it right.

Repeat, if you’re able to consistently get it right.

How to use market timing when you invest

To use market timing to your advantage you should actively adjust your investment strategy based on research and activity in global and local economic and financial markets.

You then monitor your investments and continue to actively adjust your strategy based on changing market conditions.

Risks of market timing

One of the biggest drawbacks of using market timing as a strategy is that it’s really difficult to get right.

Globally there are numerous investment houses, corporations, and high net wealth investors that incorporate market timing into their investment decisions. Results are often mixed. So I think important to note that it’s quite rare for investors to consistently get this right over an extended period of time.

Research from global investment giant Vanguard showed that over a five year period, less than 15% of professional international fund managers were able to make the correct investment decisions. Remember, these are multi-billion dollar firms with entire teams of people dedicated to researching the best investment decisions.

If these guys can’t get it right, the average investor will struggle to do any better.

Not as simple as it seems

The thing with investment markets that many people often forget is that there is a lot of money in the world. And there are actually loads of investors with heaps of money who are just waiting for the perfect investment opportunity. These people keep investment markets honest.

If it was as simple as just doing the research and then knowing how to time the market, these investors with piles of cash would just do this and make bunch of money. Sounds too good to be true right?

The reason timing doesn’t work as often as it should is because the people that invest in markets are people – that means they sometimes do crazy things. Unpredictable things. Emotional things. Things that just don’t make sense.

So the best investment or timing strategy can breakdown and fail. And when you’re caught in the middle of a bad decision, you’re the one who will pay the price. Unfortunately, Marty McFly is a fictional character, and we don’t have a future almanac to follow to tell us where and when to invest.

Momentum helps

If you get your market timing wrong it means buying or selling at the wrong price and the wrong time. As a result you’ll lose money on your investment.

When you invest — and in particular when you’re first getting started investing — getting that initial traction and momentum in your portfolio is often the most difficult. Once you’ve built a solid base, you build up momentum. It then becomes easier to start making steady progress with your investments.

If you make poor investment decisions early on in your investment lifecycle, it will set you back. It will then take you much longer to build that initial momentum. Even worse, if you get bad results early it can mean you get fed up with investing. You might even stop altogether and never get to build the wealth you should.

To this end it’s important to use solid investment techniques from the start.

What’s the alternative?

The alternative to market timing is to invest based on your long-term goals and investment objectives.

In this alternative strategy, you set up your investment goals and timeline with the understanding that you’re probably not going to always invest at the ‘perfect’ time.

In this far-out alternative investment technique, you also understand that if you invest smart and avoid making poor investment decisions, you’re likely to get a much better investment outcome over time. If you’re ahead of the class, you might even understand that with regular investing over time, occasionally you’ll perfectly time the market – and you will understand that this will be by chance.

I call this alternative strategy ‘Successful Investing’.

Successful investing

You can use this strategy to avoid investment mistakes and failure and create lifestyle options. To do this, follow the steps below:

  • Clarify your investment goals – what do you need to or want to get out of your investment?
  • Understand your timeframe – to help you determine what investments will be suitable to achieve your investment goals as above
  • Choose the right investments – these are not going to be ‘the next big thing’ or some hot tip you heard at a dinner with mates, but investments that have a good chance of long term returns
  • Be consistent – this means ideally invest regularly so you get the benefits from both rising and falling markets and invest in a manner consistently with goals and strategy
  • Avoid following the herd – this is where you can run into real trouble so if you’re likely to get emotional think about buddying up with an friend or adviser to help you out
  • Measure and review – check your results are consistent with your plan and what you’re trying to get out of your money

Common roadblocks

I’ve seen many people try to do this with varying levels of success. So I thought it worth noting the areas where most people fall down. To identify them, you can really benefit from having a buddy who really knows what they’re talking about. Or a good financial adviser to help out

  • Investment selection – you need to understand what the right investments are for what you’re trying to do, and how to avoid poor investments
  • Your timeline – you need to get crystal clear on what’s possible and within what timeframe, so you can confidently invest
  • Avoiding emotion/herd behaviour – you should take the emotion out of investing so you don’t follow the crowd all the way to investment failure

If you want to invest successfully and avoid making bad decisions, you need understand market timing. And how it does or doesn’t fit with your strategy.

Do this and you’ll avoid investment problems that will hold you back from getting the outcomes you should. Don’t make the mistake of thinking you’re Marty McFly!

This article originally appeared on Pivot Wealth and is republished here with permission.