Timing the market
REDUCE DIFFERENCE BETWEEN FUNDS AND YOUR RETURN How to ensure good wealth planning and optimal returns
Following certain guidelines can help investors reduce the gap between the returns they experience and the return which the fund delivers – making a significant difference to the growth of wealth.
Make sure you do not give up returns by timing the market poorly. Investors often buy high and sell low, the main reasons being: – for example, “lifestyling” within a retirement pot or forced equity sales for liquidity reasons.
– for example, buying equites when they are expensive simply because the alternatives appear to offer even worse value.
– a consequence of investors buying assets at high levels whilst chasing strong recent returns in a fear of missing out and selling after times have been tough, in the fear that things will get even worse.
The technical factors above can be mitigated with good wealth planning.
The rational reasons can be justifiable depending upon the market conditions – lower interest rates imply that we should be willing to pay more for equities, all other things being equal.
The psychological factors, however, should be avoided at all costs and there are a few simple guidelines which can help:
Strategic asset allocation: as your asset allocation will drive the majority of your returns, you should be comfortable that it’s right for your level of risk and capacity for loss.
This should ensure that you are less likely to experience an investment result with which you are unable to cope mentally and financially, allowing you to remain invested through the tough times, rather than selling in fear.
Tactical asset allocation: have a rough idea of a tactical range around which you would be willing to stray from your strategic allocation.
This should be small enough to ensure that you do not stray completely, but large enough to make high conviction tactical decisions when the opportunities present themselves.
Once you have this level, consider what would cause you to stray from your strategic allocation. For example, if your strategic allocation is 70% equities, what must the world look like for you to have only 50% invested in equities. Hint: Pretty bad!
Rand cost averaging: phasing into and out of investments can reduce the effect of an inherent level of market timing to which all investors are exposed. Trying to time the market perfectly and invest your entire position in one go can pay off if prices just go higher from that point, but shortterm market moves can be volatile and so phasing in can provide you with comfort that if prices immediately go down after your initial investment, you will pick up an even greater bargain with the next phase.
Stephen Kelly is an Investment Analyst at Maitland.