The Volatility of Market Cycles (Are you scared?)
The last two weeks have been big losing days for stock investments. Since May, Morgan Stanley’s EAFE Index, which tracks European, Asian, and other international stocks is down 12% while the Emerging Markets Index is down 20% and the S&P is down 6%. Also, around nine billion dollars was transferred from stocks to money markets last week.
Investment Lemmings-Don’t Become One!
A lemming in the animal kingdom is a rodent known for periodic mass migrations that occasionally end in drowning. An investment lemming is a person who follows the crowd into an investment move that will inevitably end in disaster.
The Wisdom of a Buy and Hold Investment Approach
From 1985-2004 the average stock fund delivered an annual return of 12.3% while the average stock fund investor earned only 3.7% annually per year according to the Quantitative Analysis of Investor Behavior by Dalbar, Inc. and Lipper published in July 2005.
How About Market Timing?
*April of 1984 through December of 2002 showed that the S&P 500 produced an average annual return of 9.66% (15%/year if we would have cut the numbers off at May 2000.)
*If you missed the 40 best days in the Market your 9.66% rate of return drops to .47%. However, this line of thought is flawed because in the majority of cases, large percentage gainers were no more than 90 trading days away from a large percentage loser, sometimes before and sometimes after.
*If you miss the 40 worst days in the market your return increased from 9.66% to 21.46%. However, this analysis is just as flawed as the first one, since it assumes that the investor is smart enough to be out of the market on all the worst days, but in the market in all of the best days.
*If you missed the 40 best and 40 worst days, your return increases from 9.66% to 11.31%, so timing the market will only provide you with an additional 1.65%/year if you do everything perfectly. As I have already told you, the research shows that the average investor only earns 3.7% vs. the S&P 500’s 12.3% (1985-2004).
Is the Market Consistent or Are We in Unique Times?
*Fifty three percent of the time the market is up, vs forty seven percent of the time spent down.
Dan Ross says
June 16, 2006 at 11:48 pm53 vs 47 but does not take into account the MAGNITUDE of the change, and so does not really measure accurately the upward bias of the market over time
Money-Guy.com Response: Good point! I actually had the answer, but I try to avoid going so deep that the topic becomes boring. For the number lovers (that includes me):
10 year history (6/14/96 to 6/13/06); Up Days Avg = .839%; Down Days Avg = -.850%
20 year history (6/14/86 to 6/13/06); Up Days Avg = .722%; Down Days Avg = -.743%
30 year history (6/14/76 to 6/13/06); Up Days Avg = .699%; Down Days Avg = -.694%
55.5 year history (1/3/50 to 6/13/06); Up Days Avg = .624%; Down Days Avg = -.621%
As you can see the numbers are close enough that my correlation of 53% (up days) vs. 47% (down days) works and is even conservative because it does not take into account the income generated and reinvested by the index from a buy and hold approach (dividends).
Rob Alworth says
June 26, 2006 at 12:17 amBrian, your podcast is excellent and of interest even to a semi experienced investor. I’ve downloaded all of your past podcasts from iTunes and tend to pick up a useful ‘action item’ from each one. Any idea how to leave a positive comment in iTunes? Sorry to bother you with a non-financial question.
thanks!!