Should You Buy Now or Wait for a Brighter Day?

If you keep $100,000 of your portfolio out of the market, you could be costing yourself almost $200 per day.

Now that I have your attention, if you're like every other investor -- and I do mean "every," with myself included -- a question that you continually grapple with is whether you should have your money invested or if you should wait around for a time when the stock market and global economy look more inviting. With the 2008/2009 recession flashing brightly in the rearview, it's completely natural to wonder whether now is the right time to invest or whether you'll just be stepping in front of an oncoming freight train.

The problem with that question, though, is that it's terribly short-sighted.

Trading places, randomly
When we ask ourselves the question of whether or not we should be investing right now, we should be asking ourselves simultaneously if we have the foresight to know how markets will move over the short term -- months, weeks, or even days. If we don't, then when we decide to invest on a particular day or not invest on a particular day, we're essentially doing it at random.

I hate to be the one to break it to you, but most research points toward exactly that conclusion. When investors try to time the market, they tend to lose. At the risk of oversimplifying some of my favorite research on the topic -- Brad Barber and Terrance Odean's "Trading is Hazardous to Your Wealth" -- the two researchers sifted through reams of data and found that those retail investors that trade most get below-average results. The timing of their trading ends up just being random and not actually adding any meaningful benefit, while transaction and other costs eat away at their returns.

A little experiment
Last week I downloaded around twenty years' worth of S&P 500 (INDEX: ^GSPC  ) price data, set up some fancy Excel calculations, and spent the afternoon playing around with the spreadsheet.

"What happens," I thought to myself, "if I was out of the market for a random 200 days -- or an average of around 10 days per year -- between 1991 and the end of last year?"

I ran the simulation 50 times -- each time generating a different 200 days where my theoretical savings was not invested in the S&P. The results looked like this:

  Mean Median
Actual S&P 500 return 1991-2011 285% 285%
S&P 500 return excluding 200 trading days 262% 246%
Percentage over/(under) performance of random condition (23%) (39%)
Ending portfolio value difference on $100,000 portfolio ($23,301) ($39,331)

Source: YahooFinance; author's calculations.

Focus in on that last row. What it says is that at the end of the 20-some years I looked at, your account would be almost $40,000 lower if you were out of the market for just 200 trading days. Break that down to each trading day that your money was sitting on the sidelines and you get $197 for each and every day.

Since I wasn't yet sufficiently bored by running and rerunning random scenarios, I went through the exercise again, this time taking out an average of more than 1,100 days over the 1991-2011 stretch. Predictably, the shortfall amplified. This time, at the end of the period, that $100,000 account would, on average, end with a whopping $93,604 less than if the money had just been kept invested through the entire period.

I've used the S&P 500 here, but I can guarantee you that you'd get pretty much the same result if you did the same thing for the Dow Jones Industrial Average (INDEX: ^DJI  ) or the small-cap Russell 3000 (INDEX: ^RUA  ) . Why? Because the answer that my spreadsheet spit out was painfully obvious even without the Excel acrobatics.

The very meaningful "duh" result
As noted in the table above, the S&P 500 was up 285% between 1991 and 2011, or about 6.6% per year (this doesn't include dividends). Because the index was moving up, up, and up over time, taking out random trading days should lower the result most of the time. And the more days you take out, the lower that result goes. The reason that we know we'd get the same result from the Dow is that it rose 368% over the same stretch.

Now we can put the pieces together:

  1. It's highly likely that trying to trade in and out of the market based on timing is going to be little more than an exercise in buying and selling randomly and racking up transaction fees.
  2. If the market goes up over time, being out of the market at random intervals will very likely do nothing more than lower your end result -- that is, cost you money and maybe a lot of it.

The big question you should be asking yourself, then, is this: When I look out 10 or 20 years into the future, do I think the market will have posted an acceptable average annual gain?

If the answer is "yes" then you've gone ahead and answered the supposedly tricky question that the article title posed.

Notably, this same idea works exactly the same way for individual stocks. Take General Electric (NYSE: GE  ) for example. Great company, builds things the world needs, and has been doing that for a long, long time. Should you buy the stock today? It's the same process: Do you think that 10 or 20 years from now the average annual gain will be attractive? If the answer is "yes," then trying to perfectly time your purchase is likely to be a costly move.

Of course GE isn't the only stock that might be a great long-term play. My fellow Fools have identified three Dow stocks that they think belong in your portfolio. To find out which three, download a free copy of the special report "The 3 Dow Stocks Dividend Investors Need."

We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

Fool contributor Matt Koppenheffer does not have a financial interest in any of the companies mentioned. You can check out what Matt is keeping an eye on by visiting his CAPS portfolio, or you can follow Matt on Twitter @KoppTheFool or Facebook. The Fool's disclosure policy prefers dividends over a sharp stick in the eye.

Read/Post Comments (31) | Recommend This Article (100)

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  • Report this Comment On July 20, 2012, at 11:05 AM, Hanage wrote:

    Great article Matt. Really places things in perspective. Thanks!

  • Report this Comment On July 20, 2012, at 12:16 PM, chopchop0 wrote:

    GE isn't the best stock to use. Unfortunately because of its large financial arm, it hasn't come close to recovering its share price to heyday of 2007/2008. Compare that to other blue chips like JNJ WMT PFE etc.

  • Report this Comment On July 20, 2012, at 12:23 PM, cavebeatemlaetem wrote:

    But if you shorten your time interest it's much less interesting. From 1991 to 2012 there's a 280%+ gain in S&P. From 2001 to 2012 it's approximately 4%.

    Any reaction or comment? Fundamental shift in market structure, or just not taking a long enough view?

  • Report this Comment On July 20, 2012, at 2:26 PM, DonkeyJunk wrote:

    I agree and disagree with chopchop. GE has not returned to its share price heydey of 5 years ago. But, it's a healthier company, it's PE (like many companies at the time) was more than a tad high back then, and it has laid out a plan for the future. And not a future 3 years from now, but over a decade or more.

    Oh, and the finance arm just gave the parent company 3 *B*illion dollars. I'm okay with that.

  • Report this Comment On July 20, 2012, at 5:21 PM, physicsisphun wrote:

    I think that most people who "time" the market do not do it at random. In fact, they have a tendency to sell when the market is going down and buy when it is going up. (and by "going" I mean intraday.) Without carrying out the experiment, I'd guess that would make the results a good bit worse. But I'd be curious if one could get a substantial improvement by doing the reverse of what most folks do: buying when the market is going down and selling when it is going up (again on an intraday basis) Might be tough to model, but one could imagine, for example, that if the markets move x% in a day, then one might move Nx% of the stock holdings out, or Nx% of the cash in. The value of N is sort of a leverage factor, and a value of 5-10 might be reasonable. And you'd use the close prices, since it seems to be true that most movement occurs in the front half of the trading session. I'm sure that would improve the result--the question is, by how much? I don't have the data to do that analysis, but I'd be quite curious to see the result.

  • Report this Comment On July 20, 2012, at 6:15 PM, nvivo wrote:

    Do not all of you want everyone to stay in all the time?? What about the sale in May and go away, it works statistically?

  • Report this Comment On July 20, 2012, at 6:19 PM, BruBear wrote:

    It might be prudent to look back about 4 years. We were approaching a financial cliff then but nobody was letting us know. Now the word is out. In spite of the improvement the last three years, we are again driving toward that cliff and the fact that we know it does not mean that the people who could change it will change it. The cliff is still there, and the games continue in the motor and steering of the financial vehicle. The time period in the article includes a tremendous run up in the stock market that was and never will be seen before or after. Staying in the market during that whole time period my have improved ones portfolio, But since 2000, it does not look so good. Buyer beware.

  • Report this Comment On July 20, 2012, at 6:24 PM, LoadDrive wrote:

    On GE stock: You should invest in a business that even a fool can run, because someday a fool will....My NOTE: He is there Now !

  • Report this Comment On July 20, 2012, at 6:27 PM, greensteves wrote:

    The economy so far in the 21st century is substantially more fragile than it was in the 90s. This doesn't seem to vindicate the buy and hold strategy doesn't seem optimal. I could easily see 10 more years of slow growth and high volatility, where riding the market uptrends and avoiding or betting against the downtrends would be the safest option. Hopefully, I'll be wrong.

  • Report this Comment On July 20, 2012, at 7:59 PM, wolfhounds wrote:

    It doesn't matter what time period you use. Fidelity has a useful tool which calculates your 10 year return by 1, 3,5 and 10 year periods. It also shows what your returns would have been had you been out of the market anywhere along the ten year timeline.

    I should preface my results by stating that I take profits at predetermined amounts or percentages. This allows me to invest during downturns.

    Had I been out of the market during those downturns, and not invested my portfolio would have been 50% lower than today.

    Since I've been investing far longer than most Fools (35 years), I've used the lessons of Lynch and Buffet to stay in the market. In fact, today was a good day for me. I bought stocks on my watch list which are high quality.

  • Report this Comment On July 20, 2012, at 10:22 PM, WishToRetire2 wrote:

    "The big question you should be asking yourself, then, is this: When I look out 10 or 20 years into the future, do I think the market will be have posted an acceptable average annual gain?"

    All this article does is put the onus on the investor to figure this out. So it's not much help really.

  • Report this Comment On July 20, 2012, at 10:49 PM, WishToRetire2 wrote:

    P.S. Japan's lost decade is getting up there to be more like 20 years as we speak.

  • Report this Comment On July 21, 2012, at 1:03 AM, Aveneljp wrote:

    The only reservation I would add is that there is a difference between "the market" and individual stocks. We have all bought good stocks at a bad time - for that particular stock.

    An increasing emphasis which some of the MF newsletters put on value is a most welcome guide to purchase decisions. eg NOV in the $60's is much more attractive than when it was in the $80's though it was always a great stock!

  • Report this Comment On July 21, 2012, at 11:28 AM, leazna wrote:

    You did a ot of work and I pretty much agree with your conclusion on timing the market. We really cant andThat would be true because most individuals do not have the knowledge or tools to evaluating it on a detailed intrinic basis and even then it would not mean a whole lot.. However individual stocks are much different. Individual stocks prices bounce around for a multitude of reasons and exhibit higher SD than the market conceptually. The S&P and DOW are representations. There's no CEO, Board of directors,customers, pricing, purchasing, etc. etc. to be determined as good or bad. For very mature companies like GE you can just look at its Beta and see the expected price similarities . However, take a look at small mature companies like Church and Dwight or J & J Snack Food with high Betas.

  • Report this Comment On July 26, 2012, at 9:19 AM, EinraLahs wrote:

    The experts tell us we cannot time the market; yet that's what the experts are doing every day, buying and selling. After 40 years I've learned this: I trade selected specific stocks, Terex in particular, which often moves five percent in a day. I only buy on days when the market is significantly down, and I usually buy just before 4:00pm. I do the opposite on selling. The shortterm results are evident the next morning. I can tell you I have done quite well by buying when everyone is selling. I keep 20-50 percent cash; if my bets are good, I prosper--I don't have to be fully invested, rarely am I fully invested. Right now I'm 30 percent cash.

  • Report this Comment On July 27, 2012, at 11:37 AM, Lamdaniel wrote:

    What am i missing? How can you be out of the market only 2.8% of the time and lose 23%?

  • Report this Comment On July 27, 2012, at 11:47 AM, TMFDarwood11 wrote:

    Interesting article. I agree about the notion of "market timing" for the average investor. There has been an incredible amount written on this subject. Further, as physicsisphun commented, if we buy and sell on personal feelings (or biorythms) we're trading on emotion or whatever and may be suckered.

    I also am aware of the methods of others, such as stated by EinraLahs who wrote about trading a specific stock on the ups and downs. Possibly a good strategy for the sand box, but I'm not ready to personally commit my future to that approach.

    I'm of the opinion there is no safe time to buy stocks. The market is based on perception and performance, and the talking heads predominate which means that a lot of the trading by the average non-professional investor may be based on perception. Not a good investment strategy in my opinion.

    I am of the opinion that a primary reason to buy stocks is to offset inflation. Currently inflation is low, but relative to the return on bank accounts, it is high.

    I also am of the opinion that the economy is not healthy.

    That said, I'm invested about 52% stocks or commodities, and 27% cash. The balance is in bond funds.

  • Report this Comment On July 27, 2012, at 1:20 PM, acenecio wrote:

    I understand the theory and reality for why market timing is not recommended however, I have never heard anyone make a good argument for how to buy into the market without being concerned with timing. Would Mr. Koppenheffer invest 100% of $100k on the same day? I see the logic for why you should not be trading a lot, but would like to see some guidance for how to know when to buy a stock. Something like what physicsisphun suggested would get me partly there, but I would like to see Fool guidance for when to buy. I realize it would be guidance but something like buying dips seems much better than just spending $100k because you had time that day. I think buying guidance has always been necessary, but ESPECIALLY now as mentioned by BruBear--the last few years do NOT appear to be representative of the prior 40 and therefore call into question if the next 5 years will be more like the last 4 or the last 40. Answers to those issues could get me out of some cash...

  • Report this Comment On July 27, 2012, at 2:35 PM, ffandal wrote:

    I agree with the comments more than the article. You need to look at the last 10-12 years return. We have basically treaded water. If you believe this will continue for the next 10 years, which I do, you need to pick a basket of stable, dividend producing stocks and ETF's. Add predetermined amounts to your positions as the market falls and shave off the same amounts as the market rises. This strategy works only if you believe the market will behave in the future as it has over the last 12 years. I have followed this plan for two years now and have beaten the market, which isn't saying much. You must make predetermined decisions and stick to them. It's hard to sell when your stocks are gaining and hard not to panic when the market is tanking, but it works to take emotion out of the picture. I have used a buy and hold strategy in the past 10 years and have gained very little return. I also bought and sold on market momentum and lost. I finally got it right. Move the opposite of the market.

  • Report this Comment On July 27, 2012, at 2:54 PM, TENOFWANDS wrote:

    The sad truth about all of this is that INSTITUTIONS CAN TIME the market because they MAKE the market by virtue of the volume and cadence of their transactions. The LITTLE GUY will NEVER have this power.

  • Report this Comment On July 27, 2012, at 4:02 PM, Wildflyer wrote:

    provocative,solid article,if not just a rehash of Lou Ruckeyser's point that market timing for nonprofessionals is inferior to dollar cost averaging,etc.Time is the great multiplier here.

    Suggestion:See if you are a real man by making a big buy during one of those seismic corrections in the Dow, when all the whiners are jumping out of windows .

    It takes leather balls to play rugby, but opportunity sometimes knocks at the back door.

  • Report this Comment On July 27, 2012, at 5:01 PM, sept2749 wrote:

    I agree totally with "Tenofwands". The instituitions do in fact control market prices, at least to some extent.

  • Report this Comment On July 27, 2012, at 6:49 PM, SR111 wrote:

    As I look back over the years, both in and out of the market, it's hard to quantify if I was right or wrong. My father has told me for the last quarter century that sometimes the best move you make is the move you didn't make. And he's right...

    That said, only a fool would keep their life investments in a bank. And he doesn't...

    As a whole, the stock market represents only 1 way of investment returns. Albeit, with unlimited possibilites. This forum is an outstanding way to start. Personally, I'm going to stay with the 'keep it simple, Stupid' philosophy. We can beat Wall Street.

  • Report this Comment On July 27, 2012, at 7:00 PM, devanmacpherson wrote:

    I agree with the market timing is hogwash because there are so many working parts that it doesn't move up or down a great deal i.e. you wouldn't see a massive market selloff where the market would lose 20% of its value over the course of a day or even a week. However the market can play Jekyl and Hyde with an individual stock and does so often. One of the greatest influences on the return of individual stock is the starting price point. Get it for a song at the start and you are limiting your downside and creating a margin of safety.

    On the opposite side of the coin, the other great influencer of returns is time in the market. You keep a basket of mutual funds that track the broad market over 20 years and you will ride out the daily, monthly and even yearly ups and downs.

    My suggestion: If you are investing for the long term and use an index fund, the easiest way to sleep at night is to dollar-cost average over the long term and sleep well at night. The long term time frame will allow you to avoid the starting point price problem. If you are index + a few, then use the "few" to try to time when to pick the individual stocks.

    If the market goes poo-poo on your particular stock choice and the fundamentals haven't changed, fantastic! Get in, while the getting is good and buy your company on sale and out of favor. Continue to put your index dollar-cost averaging to work and sleep well. Get excited about buying a company (though likely a small fraction of a company) on sale. The only hard part is that once you commit to purchasing your "few", you need to continue to monitor for the right time to sell, unless you have the buy-and-hold fovever mindset that Warren Buffett espouses.

  • Report this Comment On July 27, 2012, at 7:16 PM, Sunny7039 wrote:

    "[T]he S&P 500 was up 285% between 1991 and 2011, or about 6.6% per year (this doesn't include dividends)."

    You know, it's really a tedious demonstration to show that the mean return is meaningless (no pun intended) and possibly even misleading when we are not examining data that fall under a normal curve. All I can say is, either work out the numbers yourselves or ask someone who knows how to do it to show you. Also, note that this is why mutual funds are required to show you not only "average annual returns" but also a graph illustrating exactly what would have happened to your $10,000 at every point during this period.

    Did this same author not sell anything during this 20-year period? Huh. I thought not.

    Another issue is risk avoidance. How does the average, non-independently-wealthy person insure against ever-increasing risk? One way is to have a substantial amount in cash reserves. By doing so, they will not be faced with the necessity of selling a major asset at distressed prices. Of course lowering risk in this manner has a cost. Who thinks it doesn't? For the average person, saving has a cost. They really do have to forego things they need to buy but can live without for the time being. That, too, is a cost. And sometimes, they miscalculate.

    How many people across the country had to raid their 401(k)s over the past 5 years in order to keep a ROOF over their heads? Now that would be a statistic I'd like to see. That would shed more light on this topic. A cash reserve of two years' basic living expenses would have prevented that, at least for the vast majority.

  • Report this Comment On July 27, 2012, at 7:26 PM, Sunny7039 wrote:

    Einrah Lahs, Darwood, and TenofWands, thank you for your excellent comments.

    I thought the article on the pop in the market before the FOMC meetings was more useful than this. Don't look now, but we just had one. And I did put a little into a mutual fund on Wednesday, just for the heck of it. Of course, I don't mean to suggest there's any guarantee that such patterns will persist in the future. I agree that markets have become more volatile, exactly as would be expected when a small number of large players have a large influence on what happens.

  • Report this Comment On July 27, 2012, at 11:13 PM, lowmaple wrote:

    The market ebbs abd flows and if you had bought into it near the end of the last crash you definitely would have done better than when buying at the beginning. I was interested in buying WM but the price got away from me rising into the high 30s. Since I was wanting dividends I refused to buy since despite the May buying or not buying delemma I waited til the US Congress shenanigans brought the price down to 30 and change. Even though I missed out on some dividends I will definitely reap the awards of patience over the many years I will be receiving since this is a buy and hold stock. IF I had a crystal ball I could have even got it cheaper . But getting a dividend of 15 to 20 % higher. is still good enough for me.

  • Report this Comment On July 29, 2012, at 6:13 PM, CallyRose wrote:

    Anyone heard of Investools? They teach how to time the market based upon trends. We did an experiment where we each decided when to trade based upon the trends. I wound up winning the most amount of money and happened to have the most trades, but still came out ahead. So when you talk about timing the trade there are strategies that are not random. They keep you from losing the most amount by getting out before the trend has plummetted downwards, and geting back in at the beginning of the upward trend.

  • Report this Comment On July 31, 2012, at 2:49 AM, careersincloud wrote:

    This is the time to be buying durable goods imo because many are undervalued and will do well when the economy turns around.

    There are also some good tech companies out there like AAPL that I think in that case will hit two thousand a share within three years.

    I like BRCD for its price and also the potential there.

    CLWR is a risk but one I might take.

    The same ones are always with low or no debt, real earnings and better yet, names that are well known and good management.

    I see hope for CSCO but CAT and AAPL are my two favorite picks since I see more than 100% profit in both with little risk. I like ORCL too and CZZ at current price. Other Picks: FN, SNE UEIC, MTRX, PRIM STRL, KIRK, HVT, LSI, CMG, CTSH, EXPD.

    As for more risk; AMD, MSFT, BAC, NOK, CLWR

    Remember, I am not a Broker and not telling anyone to buy, hold or sell. I am only here to speak opinions of how I do things which is usually following the big money and big names and holding LONG as in three years with some swing trades.

  • Report this Comment On July 31, 2012, at 4:10 AM, careersincloud wrote:

    I forgot to mention two other out of favor stocks and yes, both are having some problems but I think these stocks will more than double over the next 36 months.

    AA and RIMM. I know, many do not like RIMM right now and as for AA, once the economy improves, it is going to fly. RIMM has no debt that I know of so it is not going anywhere unless it gets bought out.

    Remember, my posts are only my opinion and I am not a Broker but I do have over 20 years experience in the markets and have lost some and won some. I have won more than lost but I admit, I made the bulk of my money buying in the 87 crash and holding and just by luck selling into the bubble. I was lucky to get some stocks for two bucks and sold over a hundred but AAPL is my best when I bought in the 80s. I think AAPL is undervalued now and long term is going to two thousand per share in three years JMO and good luck to everyone here. I hope all of you make millions in whatever you buy or sell or however you invest.

  • Report this Comment On August 01, 2012, at 5:48 PM, avgguy101 wrote:

    And then there is the reality that we have never been here before. As they say hind sight is 20/20 and making predictions are diffiecult, especially about the future. Oh, yes and my the long run we're all dead. When tings look too good they aren't and things are never as bad as they appear....1937 will never happen again.Then again never say never.

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