Investors Shouldn’t Try To ‘Time the Market’

A new report by investment research firm Morningstar reiterates what most longtime investors probably have learned the hard way: Trying to “time the market” constitutes a fool’s errand.

Key Takeaways

  • Fund investors in the past decade missed out on about a fifth of their potential returns because of poorly timed purchases and sales.
  • Morningstar’s findings mirror similar research showing the perils of so-called market timing.
  • Results for market-timing investors varied depending on a fund’s asset class and volatility profile.

Morningstar found, on average, investors earned an annual return of 6% on mutual fund investments in the decade through 2022. The average fund, though, gained 7.7% annually in the same time frame.

That means investors, by eschewing simple buy-and-hold investment strategies, missed out on about one-fifth of the returns they otherwise would have enjoyed.

Investment timing of purchases and sales accounts for the difference, Morningstar said. Its findings mirror numerous other studies that have shown investors trying to capture market highs while avoiding dips usually only hurt their long-term results.

Timing Stinks

Fidelity Investments, in a report released earlier this year, showed that $10,000 fully invested in the Standard & Poor’s (S&P) 500 Index between Jan. 1, 1980, and Dec. 31, 2022, would have yielded about $1.1 million at the end of that period.

However, simply missing the index’s five highest days of returns in those 43 years would have trimmed that final amount by 38% to $671,051. Missing the 10 highest days of returns would have reduced it to $483,336, or 55%. And missing the highest 50 would have erased virtually all returns, leaving just $76,104.

Meanwhile, Morningstar’s report found that the impacts of market timing varied by asset class.

Investors in the 10-year period it measured only missed out on 0.8 percentage points of the average U.S. stock fund’s 11% annual return. Investors in funds allocating investments to a mix of stocks and bonds missed just 0.46 percentage points of 6.44% average fund returns.

“Time and again, we have found that investors in allocation funds capture a greater share of the funds’ total returns,” Morningstar said.

Conversely, investors in equity funds focused on particular economic sectors fared far worse, missing out on 4.38 percentage points of the average sector equity fund’s 10.8% return.

Fund Volatility Matters

Morningstar also discovered that less-volatile funds allowed investors to capture more of a fund’s actual return.

On average, dollar-weighted investment returns in the least-volatile funds, ranked by quintiles based on their annual standard performance deviation, lagged their total returns by about 0.9 percentage point annually. That’s a full percentage point less than the most-volatile funds.

“Another clear finding from the study is that investors have struggled to successfully use narrowly focused or highly volatile funds,” Morningstar said. “Most investors would likely be better off keeping it simple in ways that emphasize wide diversification and low costs, which means steering clear of strategies like these.”

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