Have you ever been to a fair or circus and watched a knife juggler work? Its a truly impressive feat. That delicate balance and being on a literal blades edge and dancing with danger. If you put yourself mentally in their position how many times do you think you could catch the knife accurately? Twice? Three Times? Maybe miss the very first one?
This is the same situation that people find themselves when they try to time the stock market or other asset classes. Particularly something prone to panic selling/buying like the stock market. You might get lucky once or even twice, but eventually you are going to slip and cut yourself.
It may be boring, but continuous gradual investments is almost always going to be better on a extended time horizon. Not only for your financial health, but also for mental wellbeing as well. This is what is called Dollar Cost Averaging (DCA.)
What is Dollar Cost Averaging?
Simply put, dollar-cost averaging is a strategy to reduce the impact of volatility by spreading out your stock or fund purchases over time. Instead of sitting on large reserves of cash and constantly monitoring stock tickers to buy the “perfect dip” you are on a consistent basis adding to your positions.
“If you approach the market like a casino, it will treat you the results of a gambler”
Whether through a robo-advisor or overseen directly yourself this should be done with every paycheck. Have a predetermined amount based upon your income and budget and have this money automatically drafted from your account. Now this is the important piece, do not try and time the market. Whether you think the market is hot, cold or somewhere in between add your funds to a diversified set of ETF’s constantly.
As the markets go up and down, it’s easy to become too focused on day-to-day returns. Instead, keep your eyes on your long-term investing goals and your overall portfolio. You will lose some months and win others, but the long term result will always be the same. Positive market growth.
Case Study in Market Timing
At the end of 2019, if someone had told you 2020 would bring a world-wide pandemic that would almost completely shut down large portions of the global economy, the U.S. would experience widespread social unrest, and the Presidential election would be one of the most divisive in our history, what would you have predicted the annual return for the S&P 500 to be? Up 18% probably would not have been a particularly popular answer.
Many at the beginning of the pandemic were calling for the end to the us economy as we know it. Isolation would kill innovation as teams were separated from one another. Spending would cease, as fear turned to cash stuffed mattresses. What actually happened? Circumstances led to technology driven delivery and consumer applications. The ability to remote work anywhere spurred unprecedented housing demand, booming related industries. The markets saw some of the highest year over year growth in us history.
Will next year be the same? Nobody knows and that’s ok, that is the beauty of a continuous investment strategy.
An Antidote to Market Timing
Everyone thinks they are smarter then the market. Many early investors will go all in options, margins and single stock picks and get burned, often quite badly (I know I did.) No matter how precise your modeling is, no matter how carefully you’ve combed their financials, the markets are an irrational animal. Time in the market, beats timing the market. In fact, the length of time you invest matters much more than entering the market at the best time. Plus a lot less mental anguish in the long term.
“If you approach the market like a casino, it will treat you the results of a gambler”
Let me share some statistics that illustrate this point. Investments in stocks have outperformed cash over every 20-year period from 1926 to 2019, by a large margin. During these 90-plus years, the average ending wealth for an investor who put $20,000 a year in cash investments for 20 years is approximately $645,000. The average ending wealth for an investor who put their $20,000 a year in the stock market with perfect timing (always investing at the low) is approximately $1,750,000. And the most interesting data point of all is that the investor who put their $20,000 in the market on the first day of the year, without any thought for timing, would end up with approximately $1,620,000. In other words, they made almost as much as the perfect timer, and outperformed the procrastinator by a three-fold margin.
Let me repeat: perfect market timing (which in reality, even the experts can’t implement) doesn’t make nearly as much difference as consistency, year over year. And one of the easiest ways to do that? Dollar-cost averaging.
Invest for the Long Term
The stock market is reactive to all sorts of external events, many of which are difficult to predict or even understand how the market will react. Supply constraints, job reports, inflation concerns, interest rate spikes and as we saw in 2020 wide spread diseases can cause all kind of impacts on the market, both positive and negative.
Somebody could spend hours of their time pouring over reports, calculating how much of the externalities are baked into current price and anticipating global impacts on certain companies. Why though? Invest continuously, buy into broad diversified ETF’s and go enjoy time with your family or pursuing a hobby. It’s a beautiful life and constantly pulling up your brokerage account to see whether you are red or green that day does your mental state no favors.
Despite the wild gyrations of the last several months, the stock market remains the best place I know to build long-term wealth. Again, it’s not a way for the average investor to make a quick profit. But for investors who have a long timeframe, the stock market is likely exactly where you want to be. Start slowly, but start now and continue to invest regardless of market conditions. Procrastination is not your friend.
