What to Tell Clients Who Ask You to Time the Market (Hint: No)

Aug 15, 2019

It seems that every time the market starts to show some volatility, I see ads and listen to conversations about jumping out of the market. During the 4th quarter of last year and over the last two weeks, the doom and gloom and messages of traders (not investors) are hitting your clients’ inboxes and eardrums.  Many advisors I know are answering questions such as, “Is it time to get out?” and “Should we be preparing for the next downturn?”  What clients are really asking you to do is to try to time the market.  

We all know that marketing timing is a fool’s errand and Matt Potter from SEI’s investment services team has written a great guest post, outlining some great talking points for you to use with your next nervous Nellie client.  Take a look and think about what you (and your client) can control.

I’m going to make a few assumptions about you:

  • You recognize the futility in attempting to time markets
  • You have invested a fair amount of time explaining to your clients why this practice, which may sound good in principle, typically backfires in practice. After all, no one has shown the ability to consistently predict the market’s future direction
  • Despite your many attempts to steer your clients away from the siren song of market timing, over the past several months (or maybe even days), more than one client has asked you if now would be a good time to sell and go into cash, so that their portfolio can sidestep the inevitable market correction or crash that must be arriving soon. In other words, they want to time the market

With that said, I’m going to take a stab at giving you some ammunition and arguments to help you explain to your clients why market timing fails and why remaining invested can generally be their best course of action.

Why it’s hard

As a first step, let’s define the issue. One definition of market timing is “the strategy of making buying or selling decisions of financial assets (often stocks) by attempting to predict future market price movements.”

Essentially, effective market timing involves knowing when the market is about to undergo a meaningful change in direction, and moving into or out of riskier assets quickly enough to be correctly positioned as this change occurs. For example, if you’re convinced that equities have enjoyed a long bull market and are about to experience a sharp decline (as many people currently seem to believe), then the logical step is to sell your equity holdings and move into cash or bonds.

Again, timing matters. If you sell too early, you miss out on additional market gains. But if you sell too late, you’ve already locked in losses and may risk selling at or near the bottom. Clearly, this presents some challenges, as captured in this nearly 90-year-old quote responding to the stock market crash of 1929:

“…take all your savings and buy some good stock, and hold it till it goes up, then sell it. If it don’t go up, don’t buy it.”   Will Rogers, October 31, 1929

Rogers obviously attempted to be (at least somewhat) humorous in his comments, but he helps to illustrate the inherent difficulty in market timing. After all, a market timer needs to be able to predict the future. As part of this, one must be able to differentiate between short-lived, mild market dips (false positives) and actual, meaningful inflection points in market trends.

It requires patience, except when it doesn’t

Consider that a market timer sometimes needs to stay patient and not be fooled by brief negative “head fakes” – success in these cases is dependent on *not* reacting in the face of a temporary decline, but having the discipline to ride out these brief bouts of volatility. However, it is also crucial to recognize a real market crash and act quickly to sell when it shows up. In these instances, a market timer can’t afford to be patient – hesitation will cost you money.

It’s somewhat akin to driving on a highway and seeing movement on the side of the road up ahead. Quick decision – is it a deer about to bound in front of your car? Then slam on the brakes as quickly as possible. But if it’s only some movement in the foliage caused by wind, then resist the impulse to brake and just keep on driving at the same speed. Either way, you’d better be right so that you don’t either get in an accident or slow yourself down unnecessarily.

This is clearly a tall order, even for an experienced investor with a well-developed feel for the market. Despite this, there seems to be a fairly widespread belief among clients that markets emit clear, obvious signals when they’re about to fall. A common question we often hear is something like, “Is now the right time to be getting out of this market?”, which seems to imply that market timing is not only possible, but also mandatory. After all, if you “know” that a bear market is about to hit, wouldn’t it be financial malpractice *not* to move all of your clients into the safer harbor of cash?

And if you can’t predict when markets are about to fall off a cliff, it must be that you aren’t trying hard enough or aren’t perceptive enough to recognize when danger is approaching. The reality, of course, is that markets don’t announce when they’re about to fall precipitously, and even skilled, experienced investors regularly misinterpret market signals and come to the wrong conclusion about where stocks are headed.

So what is an investor to do?

First, it’s important to acknowledge that we can’t predict the future with any degree of consistency. Yes, you can always find market gurus who claim to have foreseen the crash of 1987, or the bursting of the tech bubble, or the 2008 global financial crisis. But have they demonstrated a proven ability to make these market calls based on some reliable and repeatable process or metric? Not likely; if they had, they would be managing a multi-billion dollar hedge fund or family office and probably not publicizing their methods, lest others replicate them and render them less effective.

Investors need to recognize that even if they could time when to sell out of the equity market, would they later be able to time getting back in? Predicting a market top or bottom is hard enough, but predicting both is an even bigger challenge. There are a number of studies that have been done, attempting to quantify the opportunity cost of being early or late in making buying and selling decisions. Instead of assuming that one is an exceptional investor who is far more skilled than virtually every other market participant, it’s more practical to accept one’s limitations.

Control what you can control

Rather than focusing on the timing of when to invest or sell, a solution is to control what you can control.

Create a portfolio that is designed with a client’s goals and risk tolerance in mind, and set reasonable and realistic expectations upfront about how this portfolio might perform during different market environments.

Accept the reality of being human, which means that sometimes it will be tempting to take action at exactly the wrong time. Make a plan ahead of time for how you will respond to these temptations, and recognize that staying invested, even when you’re itching to sell, is also a choice – and very often, it may be the best choice an investor can make.

Investing involves risk, including possible loss of principal.

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John Anderson

John Anderson

John Anderson is the creator and lead author of Practically Speaking blog and Managing Director of Practice Management Solutions for the SEI Advisor Network.

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