As the market rally persists, many investors will no doubt be kicking themselves and wishing that they had bought in earlier. Some will convince themselves that they better get on board or risk missing out on this bull market. There are many good reasons to invest money, but choosing to get in because of the potential gains that you could have made is not one of them. In the same way that people capitulate and sell out near market bottoms, there is also a big behavioral driver that seems to make people capitulate and join the herd towards the end of big bull markets. I am not saying that we are poised for decline (I am not a good market timer), but simply noting that buy or sell decisions made on the basis of what you wished you had done last month or last year is often truly dangerous. Continue reading
While it is widely understood that index funds represent a low-cost way for investors to achieve broad diversification, a recently published research study sheds light on a “hidden cost” associated with investing in index funds.
Antti Petajisto, a professor at NYU’s Stern School of Business, conducted the original research for “The Index Premium and its Hidden Cost for Index Funds,” as part of his Ph.D. thesis at Yale in 2003.
The study examines the ways that stock prices change between the time that it is announced that a company will be added or removed from a stock index (such as the S&P500) and when the company’s stock is actually added. The research suggests that canny institutional investors can make a profit in this period that results in a drag on performance for index fund investors.
Big mutual funds and financial services firms are putting a lot of focus on investor education these days. Davis Advisors has posted a piece aimed at encouraging long-term thinking called “The Wisdom of Great Investors” that provides a few interesting diagrams (below). Last week we wrote up a Merrill Lynch video also trying to calm still-skittish investors.
Two of the charts Davis created for their report were especially interesting. Continue reading
Wall Street Journal columnist Brett Arends recently penned another piece on the dangers of blind “buy and hold” investing.
Citing a study by Spanish academic Javier Estrada, Arends makes an argument similar to a recent post on The Big Picture that took great interest in the upside of avoiding the market’s worst days.
The study by Estrada, a finance professor at the IESE Business School at the University of Navarra, seems exhaustive, covering, Arends writes, “nearly a century’s worth of day-to-day moves on Wall Street and 14 other stock markets around the world, from England to Japan to Australia.”
Over an investing period of about 40 years, he calculated, missing the 10 best days would have cost you about half your capital gains. But successfully avoiding the 10 worst days would have had an even bigger positive impact on your portfolio. Someone who avoided the 10 biggest slumps would have ended up with two and a half times the capital gains of someone who simply stayed in all the time.
Arends doesn’t come out in favor of trying to hop in and out of the markets day-to-day but he does argue that these gyrations give added value to dividend-bearing stocks which offer a steady, predictable portion of their total return. Continue reading
In the Big Picture post on this chart earlier this week, Barry Ritholtz is drawn to that spiking yellow line. “If you manage to avoid the 10 Worst Days, your portfolio more than doubles the Buy & Hold performance,” he writes. $100,000 invested in the S&P 500 ETF in February 1993, would have grown to a total of $692,693.00. Buy and hold gets you to $324,330.15.
Figure out a way to miss the losing periods, Ritholtz notes, and you’re literally golden.
But to me, it’s just as interesting that the 10 best days almost exactly outweigh the 10 worst days. Continue reading