Time in the market, rather than timing, is key to investor returns

INVESTING in markets is an emotionally-uncomfortable activity regardless of market conditions. Periods of high volatility with markets lurching downwards may be the most obvious fear for most investors, but the truth is that, in far more sanguine periods, it doesn’t get much easier.

Over the summer, the VIX (an index measuring implied market volatility) reached its lowest point since 1993 and continues to be at historically low levels. At the same time, global equity markets have been achieving new highs. Yet, being invested or getting invested now may feel more uncomfortable than it has for a long time.

A key driver of this investor discomfort can be a cognitive bias known as the ‘gambler’s fallacy’ — where we believe that because an event has occurred more often than normal during a given period, it will happen less frequently in the future. Thus continued periods of growth and all-time highs can lead people to believe the balance must be about to swing the other way.

However, looking historically at the discrete monthly performance of global equity markets, sustained periods of positive returns can last longer and occur more often than periods of negative returns. Historically, the probability of a single month providing a positive return is 62pc, and having experienced that first month of gains, the chance of seeing a subsequent monthly gain actually increases to 64pc. After two consecutive months of positive returns, the chance of a subsequent monthly gain increases further to 65pc.

Past performance does not predict future returns: however it is a powerful insight into possible (if not probable) market behaviour and helps to shine light on the somewhat incorrect notion that negative performance becomes more likely the longer an upward trend continues. History also shows us that the longer our holding period, the more likely we are to see positive performance. This should give us some comfort that there is a precedent for longer-term positive trends in the market and our focus as investors should be to step back and anchor our judgments over the longer term in order to navigate the choppy waters of the short-term.

There will always be continuing concerns that seem salient to the economy (such as geopolitical events and climate-related disasters) which add to investor uneasiness. It is important to practise some considered thought here, rather than simply view bad news from one area, say politics, and assume negative news will also affect another area, such as the economy.

If markets are close to the precipice, needless to say it will not be ‘the best’ time to invest, and it may be some time before markets return to previous highs. Experience tells us that it is better to be invested than attempting to time the market perfectly. Waiting for the right moment relies on having large stores of composure to overcome the emotional difficulties of investing when markets have been falling, but also the expectation that the ‘right’ time is just around the corner. You could also miss out on the rewards that long-term investors can command for providing capital to be put to productive use.

While more treacherous times will undeniably return to markets in the future, long-term investors should take solace from history as it teaches us that it is time invested in the market, not the timing of the investment, which is most important for long-term returns.