Stuck At Home, Time To Trade?
The average investor’s return is significantly lower than market indices due primarily to market timing.
Following a significant rise in COVID-19 infections around the country Singapore transitioned into a Phase 2 HA, and it feels like “lockdown” again. You may suddenly find yourself with more time on your hands now that you are unable to go out and socialise with friends and family. Data from Statista below shows how Singaporeans spent their time during the initial lockdown in March 2020. It is possible that we will see such activities spike again.
Many people were stuck at home and had extra time and money on their hands — and so it makes sense that stock trading was another activity that really took off in a big way during this pandemic. Brokers and financial institutions reported a significant rise in new accounts opened and trading volumes. Given the recent transition to Phase 2 HA, it is likely that the stock market and trading becomes a hot topic again. You may be trying to figure out which investments are good at the moment because of how the stock market has risen since the Mar 2020 recession lows.
It would sound extremely exciting if you could brag to your friends and family about how you bought stocks at a low price and sold them at a high. The lure of getting in at the right time or avoiding the next downturn tempts even the strong-willed, disciplined, and long-term investors. The reality of successfully timing markets, however, isn’t as straightforward as it sounds.
A partner we work with, Dimensional Fund Advisors, conducted a study of professional investors and fund managers. They found that even these people have difficulty in doing better than diversified stock market returns. Over the last 20 years, 77% of equity funds and 92% of fixed income funds failed to survive and outperform their benchmarks after costs.
To make matters worse, in order for investors to have a shot at successfully timing the market, they must make the call to buy and sell stocks correctly. This mean successfully timing the market requires accuracy not just in one instance, but two separate occasions. This is something we have written about before.
Professor Robert Merton, a Nobel laureate, said it well in a recent interview with Dimensional: “Timing markets is the dream of everybody. Suppose I could verify that I'm a .700 hitter in calling market turns. That's pretty good; you'd hire me right away. But to be a good market timer, you’ve got to do it twice. What if the chances of me getting it right were independent each time? They're not. But if they were, that's 0.7 times 0.7. That's less than 50-50. So, market timing is horribly difficult to do.”
Stock markets have actually had a good run, but should this affect your allocation to stocks? Does it mean a crash is imminent? The diagram below suggests that a market high does not mean a corresponding crash the following year. Using US stock market data (which has a very long history), we can see that stocks (using the S&P 500 as a proxy) went on to provide positive average annualised returns over one, three, and five years following new market highs.
Trying to guess the future direction of markets is more difficult, not to mention more stressful, than many people think. You may hear only the favourable stories of market timing — where someone bought at $1, only to sell it at $20, but you will never hear the stories of their failures.
However, the good news is that you need not go to such trouble or lengths to have a good investment outcome. Focusing on the best asset allocation for yourself, getting your investments properly diversified, managing costs and turnover, and planning out your financial roadmap with an advisor will enable you to make the most of what markets have to offer.
You really don’t need to trade. Instead, spend the upcoming “lockdown” reviving some old hobbies, exercising, or being together with the family. You may find it to be much more pleasant.
