Market timing is a losing investing strategy

@Money July 20, 2012: 9:58 AM ET

(Money magazine) -- I'm 57 and I've been pretty good at dodging big market downturns over the years. But knowing when to get back into the market is much more difficult. I shifted half of my $700,000 portfolio to cash in May 2011 and then moved the rest to cash in May of this year. I still think the risk-reward balance in investing is totally out of whack, but I'm unsure whether to remain in cash or get back into the market. What's your advice? -- Dennis H., Meridian, Idaho

The major flaw in trying to time the market successfully is that you not only have to make one correct call, but two: exit at the right time and get back in at the right time. What's more, you've got to do it again and again -- as long as you invest -- in the hope of coming out ahead.

The problem is that it's damn tough to get both calls right consistently. To illustrate, let's take a closer look at your two moves to cash.

On the face of it, they worked, kind of. By moving half your stash to cash in May 2011, you avoided a 19% decline in stocks between May and early October of last year. And by shifting the rest of your stash to cash in May of this year, you sidestepped a 9% slide between May and mid-August.

But you didn't gain much. As a result of your moves, I estimate that your portfolio's value today stands at roughly $712,000, a gain of about 1.7% from its $700,000 starting balance. Had you simply stayed in stocks, your portfolio would have been worth almost the same amount, about $711,000, a gain of 1.6%.

So at this point, all your moves have put you ahead by a mere $1,000, or just 0.1%.

You could have done a lot better if you'd been able to combine your claimed agility at sidestepping downturns with an ability to get back into the market at the right time.

For example, if instead of allowing that first $350,000 you shifted out of stocks to languish in ultra-low-yielding cash from May 2011 until today, you had gotten back into stocks just as the market troughed in October 2011, your portfolio would be worth about $795,000 today.

And if you had been really skilled at capitalizing on market ups and downs, you could have done better still by going entirely to cash in May of last year, then scooping up cheap stocks in October, 2001, selling them when the market hit a peak last April and buying stocks again in early June to ride the rebound. Had you managed that series of moves, your portfolio's value would be about $930,000 today.

But there's a good reason you didn't do this -- humans aren't capable of regularly predicting market moves in advance. We may get some calls right, but that's largely a matter of luck (and, I suspect, selective memory in that we're more likely to recall our triumphs than failures).

My advice to you: Stop playing this glorified guessing game with your money and adopt a reasonable and disciplined investing strategy.

At this stage of your life, you still need to grow the value of your portfolio, but you also want to protect it from devastating setbacks that could derail your retirement plans.

The smart way to do that isn't to jump back and forth between stocks and cash depending on how you feel about the market's prospects. Rather, it's to set a mix of stocks and bonds that has a decent shot at both delivering reasonable returns and providing some downside protection -- and then stick to that mix except to rebalance periodically.

Had you adopted such a strategy back in May of last year by investing, say, 60% of your $700,000 in stocks and 40% in bonds -- a reasonable blend for someone your age -- your portfolio would now be worth about $734,000.

In short, you'd be ahead of where you are today, you wouldn't have had to shift your money around and you wouldn't be in the position of obsessing about when to get back into the market.

I'm not saying that 60% stocks-40% bonds is some magical blend that will yield the best results. You may want to go with more stocks if you're willing to accept greater ups and downs in your portfolio's value for the possibility of higher returns. Or you may prefer investing more in bonds if you want a more stable portfolio. The point is that over the long term you're better off employing a disciplined strategy than relying on hunches and emotions.

So I urge you to re-think the way you manage your investments. Either that, or relegate yourself to an endless, and ultimately fruitless, guessing game of where and when to move your money. To top of page

Help! We need a makeover
Young dad, $15,000 in credit card debt
Readers' Choice

Carlos Rodriguez is trying to rid himself of $15,000 in credit card debt, while paying his mortgage and saving for his son's college education.

$400,000 portfolio, too many holdings
Readers' Choice

Susan Carson and Laura DeLallo make $225,000 and have half a million in retirement savings, but their sprawling portfolios is proving hard to manage.

Overnight Avg Rate Latest Change Last Week
30 yr fixed4.28%4.26%
15 yr fixed3.30%3.30%
5/1 ARM3.35%3.30%
30 yr refi4.32%4.25%
15 yr refi3.35%3.29%
Rate data provided
by Bankrate.com
View rates in your area
 
Find personalized rates:
CNNMoney Sponsors
Market indexes are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer LIBOR Warning: Neither BBA Enterprises Limited, nor the BBA LIBOR Contributor Banks, nor Reuters, can be held liable for any irregularity or inaccuracy of BBA LIBOR. Disclaimer. Morningstar: © 2014 Morningstar, Inc. All Rights Reserved. Disclaimer The Dow Jones IndexesSM are proprietary to and distributed by Dow Jones & Company, Inc. and have been licensed for use. All content of the Dow Jones IndexesSM © 2014 is proprietary to Dow Jones & Company, Inc. Chicago Mercantile Association. The market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. FactSet Research Systems Inc. 2014. All rights reserved. Most stock quote data provided by BATS.