#1: Modern Portfolio Theory holds that markets are efficient and investors are rational. Given long enough periods of study this theory holds up very well. In fact, scholars have won the Nobel Prize putting forth their work in this area.
Of course the shorter the timespan the more likely it is that markets are inefficient and investors are completely irrational. After all, that’s how traders make money. They exploit hourly or even momentary events that represent a chance to make a score by jumping on a pricing inefficiency, a delay in data, etc.
Still, in an investor’s (not a trader’s) frame of reference, years vs. minutes, markets are pretty efficient and we can conclude investors (as a whole) are rational. If you’re already convinced just read the rest for fun.
If you don’t buy the Modern Portfolio Theory, consider reason #2: Behavioral Economics. Behavioral Economics (also called Behavioral Finance) is the study of how cognitive and emotional factors affect the economic decisions of individuals. Time after time we see people do just the opposite of what they should. It is not the goal to “buy high and sell low” yet that’s exactly what the average investor does all too often. They let their emotions dictate their behavior.
Baron Rothschild, an 18th century British nobleman made a fortune buying in the panic after Napoleon’s Waterloo. He is believed to have coined the phrase: “Buy when there’s blood in the streets, even if the blood is your own”.
We all had our own blood (investment losses) in the streets during the financial crisis of 2008. Yet, how many people were buying? Very few. Many were selling, and in dramatic fashion. They were driven by behavioral economics to do exactly the wrong thing at the worst time. Staying out of the market for most of 2009 and 2010 helped cement losses, while remaining fully invested eventually reversed all the paper losses.
Really, how can you time this stuff?
OK, you’re still not convinced? Let’s look at #3…Simple statistics. From January 2008 through July 2012 there were 55 months. The S&P 500 was up more than 5% for 9 of those 55 months, or 16% of the time. There were 18 months that were up over 3% (33% of the time).
There were 16 months where the S&P was down at least 3% (29% of the time) for the month. In 13 of those months it was down by more than 5% (24% of the time).
A person might guess right once, or even a few times in succession but not over the long haul.
Just for fun, try this game. For each of the next six months predict if the S&P 500 will finish up or down, and by how much for the month. If your track record is pretty good then try it for another six months.
By that time, hopefully you will have concluded that trying to time the market is a fool’s game. If so, you very likely would have saved yourself money, or not left much of it on the table due to poor market timing.