Working Together in Prosperity

This article was written in 1999 but is no less relevant in the turbulent times of 2008/9. During 1998, there was little need to remind investors that the value of their investments can “go down as well as up”. It was one of the most volatile years that  many investors can remember, with almost all markets experiencing sharp swings over short time periods, for a variety of reasons.

In this type of environment, it is always tempting to try to avoid periods of volatility by selling out of the market, buying back at a later, more settled stage. Here we examine this strategy, and learn that in the majority of cases, it is one that can do more harm to long term investment returns than good.  During our research into market timing - as it is called - we found that equity market returns tend to be concentrated in a relatively small number of strong trading days. Moreover, some of the strongest rises tend to come immediately following sharp market declines, a time when many market timers may still be out of the market. As a result, it is very easy to miss some of the strongest rises in the market. In this example, missing the 40 best days in twelve years (just three and four days per year) has dramatically reduced returns - in the case of Germany from positive to negative. 

All figures show total returns, from 1^st January 1987 to 31^st December 1998 , with the exception of Germany , where the price only Index was used.

Clearly, being out of the market on a very small number of key days has dramatically reduced returns - we believe that the risk of missing these days is simply too great for long term investors.  

We would be the first to admit, however, that if you do time the market accurately the rewards can be spectacular. The following table shows what would have happened over the same period had you missed the worst, rather than the best, days in each market. 

All figures show total returns, from 1^st January 1987 to 31^st December 1998 , with the exception of Germany , where the price only index was used. 

With these kinds of returns at stake, market timing is certainly tempting. But there are two major problems which mean that unless you are extremely lucky, it is almost impossible to accurately and consistently time the market. First, markets are impossible to predict on a day to day basis. It’s something that people have been trying to do since the early days of stockmarket trading - with little or no success.

Ross Pays is the Chairman of The FAA based in Cyprus. FAA offer advice on wills, tax registration services, home, health and car insurance and tax planning, including Inheritance Tax Planning, together with full accounting services.

Visit Ross Pays website at www.rosspays.com, Telephone 00 357 25 82 58 76, Fax 00 357 25 33 35 93 or e-mail ross@rosspays.com
Initial consultations are free and no obligation and fee quotations will be provided in advance for all services.