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I was asked the following question earlier this week by a client who had just awarded us a mandate: "So, is it a good time to start investing now?"
Investing for the long term (investing for anything other than the long term is an oxymoron) is always uncomfortable; instead, the comfortable thing is almost always to wait.
And why wouldn't you be comfortable sitting on the sidelines, wary of making a decision before the resolution of some or all of the current uncertainty – the effects of the next big central bank announcement reversing unprecedented monetary policies of the post-crisis period; clarity with regard to China's ongoing economic slowdown and whether this process will unleash economic chaos on the rest of the world; the direction of the euro crisis; volatility in emerging markets; and closer to home, the continuing weakness of the rand? What about all the geopolitical uncertainty?
But after any development, there is always another around the corner, other things to worry about and plausible reasons for why now is not the best time to invest. As a result, many investors often miss out on upside returns from a diversified portfolio while waiting in cash for the comfort they need to invest.
"To be an investor, you must be a believer in a better tomorrow." – Benjamin Graham
Today, and in addition to all of the uncertainty mentioned above, there is the nagging feeling that we've already missed out on a substantial upside. So surely, we ask ourselves, isn't it now best to wait until the markets drop? In the face of all this uncertainty, how do we ever overcome our discomfort sufficiently to take advantage of the long-term rewards for investing?
Avoiding the issue doesn't mean you aren't taking an investment decision. You are. Every person with investable assets has an asset allocation, whether they think in those terms or not. You may not have one intentionally, but you have assets, and they are allocated.
If you wait and hold nothing but cash, you have an asset allocation ... just one that dramatically sacrifices long-term returns for short-term comfort. Appropriate if you need to spend your assets in the near future; a very expensive way of getting to sleep at night otherwise.
The exact timing, is always uncertain, so you cannot pick precise high and low points. But as a long-term investor, you can recognise weak and strong phases and modify your investment patterns accordingly.
A few words on timing...
Economics Nobel laureate William Sharpe found that the required accuracy of market timing is impossibly high: market timers must be right an incredible 82% of the time just to match the returns realised by buy-and-hold investors. So, you attempt it at your peril.
Another piece of analysis showed that an investor holding shares representing the
S&P 500 over the 30 years from 1985 to 2015 (ie without trading in and out of the market) would have earned an average annual total return of 8.4%. By missing the five best days, that return is reduced to 6.7%; by missing the 10 best days, to 5.6%; by missing the 20 best days, to 3.84%; and 25 days, to 3.1%.
So, if we can't time movements in the market, does this mean investors are completely powerless?
"It's not timing the market, but time in the market."
How often have you heard this popular cliché?
In his book, The Effective Investor, Franco Busetti says that while he and his contributing authors endorse the power of time in the market wholeheartedly, the view that it is impossible to time the market is too simplistic. He says that while short-term market timing is a bad idea, you can time the market over longer horizons because markets, sectors and stocks all exhibit mean-reverting behaviour.
So when something is high, you know it will move lower at some stage; when it is low, you know it will go higher at some stage. The exact timing is always uncertain, so you cannot pick precise high and low points, but as a long-term investor, you can recognise weak and strong phases and modify your investment patterns accordingly.
S&P 500: 1926-2015
Source: Returns 2.0
Renowned economist and value investor Benjamin Graham emphasised that nobody ever knows what the market will do, but you can profit by reacting intelligently to what it does do.
The real distinction between good investing and bad is what the background asset allocation is while one waits, ie a person's 'default' position.
Two investors might both wait anxiously for the right moment to make an investment, but will end up with completely different returns if one remains uninvested, whereas the other's default position is a diversified asset allocation.
They may be equally nervous about the markets, but the latter investor has the huge advantage of a portfolio that is, on average, expected to earn a premium over cash over the long term. And there won't be much difference in anxiety: because of a strong behavioural tendency, known as the 'status quo bias', the portfolio an investor is actually in affects anxiety levels far less than decisions that change the status quo.
Therefore, make a diversified stable asset allocation your default position rather than cash, and your wealth will work for you in the background – regardless of your ongoing anxiety about the best investing decision.
About the author
Wealth manager: Investec Wealth & Investment
Patrick is a senior private client wealth manager with Investec Wealth & Investment, specialising in providing holistic investment planning advice to some of South Africa’s high net worth and ultra-high net worth individuals, families and their associated entities.