Investing isnt a science. Theres no guaranteed get-rich-quick formula that can make you a millionaireovernight and any stock promoter who tries to sell you a trading strategy that guaranteesprofits is almost certainly lying. Indeed, even the worlds most experienced investors and money managers dont guaranteeprofits as its just impossible to predict the markets movements.
But despite the fact that its beyond toughto know how the market will behave, investors continue to think that they know best. The simple fact of the matter is that this is investors biggest mistake.
The biggest mistake
The stock market is driven by human emotion. Therefore it tends to be highly irrational. Trying to predict the markets movements is a fools folly and trying to outperform by timing the market is just as useless.
Many different academic studies back up these statements. Investment fund powerhouse Davis Advisors looked at the annualised returns of equity investors (based on returns of the S&P 500 index) over the 20-year period from 1994 to 2013. During this time, the market saw two major bull and bear markets, which would have produced very different reactions from investors.
To model these reactions Daviss analysts compared to the returns of five different investor groups over the period studied. They were those who remained invested over the entire period; those who missed just the best 10trading days; those who missed the best 30 trading days of the study period; and those who missed the best 60 or 90 trading days.
The difference in returns for these five groups is extremely revealing. The investor that stayed fully invested and rode out the turbulence achieved an average annual gain of 9.2%. However, the investors who missed the 10best trading days or more saw compound average annual returns of only 5.5% or less.
Another study, this time conducted byconsulting firm Dalbar found that since 1984, the average US equity fund investor has lagged the market by an average of 7.3% per annum thanks to attempts to time the market.
Put simply, the above figures show that timing the market (or trying to) is just a complete waste of time, effort and money. Missed opportunities and extra trading/tax costs add up over time.
The bottom line
For the average investor, trying to trade around the market, or using a trading strategy to try and beat the market, is a waste of time. Granted, some investors have the experience to cope with this style of dealing, but theyve usually learned the hard way.
If youre looking to preserve your capital, and invest with minimum effort, buy-and-hold investing is the best way to go. For investors who have even less time, index investing may be the best strategy.
If multiple studies have show that the average investor cant beat the market, it makes no sense to try, especiallywhen theres such an easy alternative available.
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Rupert Hargreaves has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.
