In the Stock Market, Don’t Buy and Sell. Just Hold.
Jeff Sommer, The New York
Times
Jeff Sommer
writes Strategies, a weekly
column on markets, finance, and the economy.
There's new evidence that market timing doesn't work. Your odds of success are better if you just hang on and aim for average returns, our columnist says.
Selling all of your stock just
before the market falls, and buying shares just before the market rises, is a
brilliant strategy.
If you could really do it, you
would have bragging rights among your friends. And if you could repeat the feat
over and over again, you would be fabulously rich — a true stock market wizard.
But the ability to
trade like that is rare, if it exists at all. Without question, it’s so hard
that the vast majority of professional traders can’t do it, as countless
studies have shown.
I certainly can’t.
Most of us are better off living with the reality that the stock market moves
down as well as up, and that we can’t beat it. A new study provides fresh
evidence of why it makes sense to strive for an absolutely middling return. And
the study implies that a simple, unspectacular strategy — buying and holding
the entire market through low-cost index funds — is probably the best bet for
most people.
The
Study
A blog about the
new research begins
provocatively. Its title is suggestive: “We Found 30 Timing Strategies That
‘Worked’ — and 690 That Didn’t.”
Most strategies
didn’t work: That’s not surprising. But what about those that did? I wanted to
find out. Perhaps they contained the secret to future riches and I could share
it with the world.
Alas, no.
I quickly found
that there was no secret, just luck, as the researchers readily acknowledged.
“Eventually, if
you flip a coin enough times, somebody will get heads 10 times in a row,” Wei
Dai, head of investment research at the asset management firm Dimensional Fund
Advisors, told me from Singapore in a video conversation. “Flipping a coin is
just chance,” she said. “The strategies that ‘worked’ were like that.”
Audrey Dong, a
senior associate at Dimensional, participated in the research with Ms. Dai.
The two analysts
came up with a comprehensive, though not exhaustive, array of market timing
strategies — 720 in total, conducted on a variety of stock markets and using a
broad range of rigorously applied timing signals.
All of this was a little wonky. They worked carefully and methodically. The signals included several stock market valuation measures, market momentum (whether stocks were rising or falling), and whether small or large capitalization stocks were performing well. The researchers applied these measures to a range of time periods.
The strategy that
appeared to work best was conducted in a variety of developed country stock
markets outside the United States from 2001 to 2022.
It beat a simple
buy-and-hold approach in these markets by an annualized 5.5 percent, seemingly
a remarkable achievement. And it managed to do this with a straightforward
method — abandoning stocks and buying safe Treasury bills when the stock
markets were overvalued.
As the blog said, in a teasing, celebratory tone: “Thanks to the decision to sit on Treasury bills during market downturns in 2001, 2008 and 2022, the strategy outperformed the buy-and-hold market portfolio.”
Curb Your Enthusiasm
But, the blog
quickly added, don’t get “too excited.” This strategy used extremely specific
measures chosen in a computerized “backtest.” Alter a single one of them and it
no longer outperformed the markets reliably, even retrospectively; it didn’t
work in multiple markets; and there’s no particular reason to assume that it
would work dependably in real time now. In fact, there was a flaw in every one
of the 720 approaches the researchers took, including those that seemed
superficially superior.
What's more, even if one strategy managed to work for a while, it would be unlikely to remain secret for long. Modern markets are efficient enough that a winning method will be quickly replicated by others and won't be winning for long.
That’s one of the
core insights of what is known as “passive investing”: simply accepting that
you can’t beat the overall market and focusing instead on minimizing your costs
so you can get as much market return as possible. Broad, diversified, low-fee index
funds — either traditional mutual funds or exchange-traded funds — will do this
for you. But you need to be willing and able to withstand substantial losses,
sometimes for extended periods, because while the stock market has risen over
the long haul, it often declines.
Timing the market
is, for the vast majority of us, a recipe for losses. It may work some of the
time, but it’s unlikely to work all of the time. The problem isn’t just knowing
when to sell. You also need to know when to get back into the market and
getting both decisions right — selling at a peak and buying at a trough — is
rare in any single market cycle. Over decades, it may be impossible.
“This is an
eternal topic,” Ms. Dai said. “People are always trying to figure out ways of
beating the market. But moving in and out of stocks isn’t a good way to do it.”
What this
Dimensional research didn’t investigate was whether picking individual stocks
can be a consistently winning strategy. But other studies have demonstrated
that successful stock-picking over long periods is also extremely rare.
For instance, a long-running series of reports by S&P Dow Jones Indices -- which I have covered in this column -- have examined the overall performance of stock funds and found them generally to be lacking. Most active fund managers can't beat the market year after year, these reports have shown.
Aiming for Average
I’d be happier
knowing a way of beating the market regularly, of course. I’d rather be a
stellar performer, not an average one.
But, as it turns
out, striving to be average is probably a wise choice. Just match the market
returns; don’t try to beat the market by buying and selling at moments that
seem like great opportunities. You’re likely to hurt yourself.
That’s the
implication of the Dimensional study and a central message of a classic
investing book, “Winning the Loser’s Game,” by Charles D. Ellis. As
in amateur tennis, avoiding errors is likely to improve your performance more
than reaching for big winners. Consistency and efficiency — low cost and
diversification, in the case of investing — is the best approach for most of
us.
This isn’t an
inspiring message, perhaps. There’s no particular glory in merely matching
market returns and avoiding dumb unforced errors.
Yet this approach isn't easy, either. You need to stay solidly in the middle of the pack and keep your expenses low, while most of Wall Street tempts you with advice on how to get ahead of everybody else.
That advice comes
at a substantial cost, however. This latest study, along with much of academic
finance, suggests that for most investors, striving to be average is a much
better bet.
N. Russell Wayne
Sound Asset Management
Weston, CT
Any questions: please contact me at nrwayne@soundasset.com
203-895-8877
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