- Wednesday, October 16, 2024
As we all know, trying to perfectly time the stock market is an incredibly difficult task. However, it seems that many retail investors - individuals like you and me - have a tendency to do the exact opposite of what they should be doing. Instead of buying low and selling high, they often find themselves buying high and selling low.
Recent data from the Investment Company Institute reveals that retail investors are once again entering the stock market. During the significant surge at the end of last year, these investors became net purchasers of stock funds. In November, they invested a net $17 billion in stock mutual funds and exchange-traded funds. This number grew to $32 billion in December, with the majority of purchases occurring in the last three weeks of the month - after bullish signals from the Federal Reserve caused stock prices to skyrocket.
Unfortunately, this behavior is nothing new. Looking at fund-sales data over the past four years, a clear pattern emerges. During two periods when the stock market was performing poorly and prices were relatively low - from March 2020 to October 2020 and from April 2022 to October 2023 - individual investors sold their stock funds. Surprisingly, some of the highest selling points were during the lowest market points, such as March 2020 and last October.
Conversely, during two other periods - the significant boom that began in November 2020 and carried on until 2021, and the last two months - many of us eagerly bought stock funds. These were times when stock prices were already high, leading to poor investment decisions.
It is evident that this approach is far from effective when it comes to managing a business or a retirement portfolio. It is crucial for retail investors to break this cycle of following the herd and instead focus on making well-informed investment decisions at opportune times.
Stop Torching Your Retirement Savings
Financial research firms such as Morningstar and Dalbar have repeatedly shown that people have been consistently hurting their retirement savings by making poor buying and selling decisions. Over a period of 30 years, from 1992 to 2022, the S&P 500 generated an average annual return of 9.65%. However, the average U.S. mutual-fund investor earned just 6.8% on their stock funds during the same time frame.
This difference in returns is significant and can have a profound impact on the final size of your portfolio after 30 years. It can even cut it in half.
The reason behind this phenomenon is not a mystery. Our brains are not naturally wired for the stock market. While it may be instinctive to follow the crowd to avoid danger, in the world of Wall Street, it leads us astray. We end up buying stocks when they are already high and selling them when they are already low.
My late friend Peter Bennett, a highly successful investment manager in London, was often approached by publishers to write a book on successful investing. However, he always turned down these requests, stating that his investing wisdom could be summed up on a single piece of paper: "Buy low (ish). Sell high (ish)."
It may sound obvious, but the reality is that most people do the exact opposite and then wonder why they suffer losses.
For most investors, attempting to time the market is not worth the effort. Instead, it's better to establish a basic asset allocation that balances stocks, bonds, and maybe commodities. Set up automatic monthly contributions to your 401(k) and then forget about it. Lose your login details and resist the urge to constantly monitor your portfolio.
Looking back at history, trying to time the market is unlikely to double your investment returns. In fact, it's more likely to cut them in half.
So, save yourself the trouble and stop torching your retirement savings.
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