Some investors try to use “market timing” to boost returns. “Market timing” means predicting stock market declines and advances and then transferring funds between the stock and bond investments in advance of what they predict will happen.
The Covid era (January 2020 and continuing) shows how difficult it is profit from market timing.
In March 2020, once the economic damage from the Covid epidemic became clear, the stock markets acted as expected; they crashed. For instance, S&P 500 Index Funds declined 34%.
But then something unexpected happened; U.S. stock markets quickly rebounded while U.S. and world economies were getting much worse. That meant market timers had to quickly reinvest in stocks when there was no economic evidence that it was the right time.
Now we know that holding the U.S. stock funds during the worst of Covid was quite profitable. Even if a market timers could have predicted Covid and the economic effects, they were probably not going to move fast enough to profit.
While Covid remains a powerful force in the world economy and our lives, it does appear that the situation is improving in 2022. So, how did the stock funds react to the better news? By declining!
The difficulty (or impossibility) of profitably timing investments during Covid is relevant to current news about the Ukraine crisis. Before the invasion, the Wall Street Journal ran this headline: “Stocks Finish Lower on Ukraine Tensions.”
Selling stock investments because of an expected invasion is market timing. But for market timers to profit, they first must determine if there will be an invasion of Ukraine, then the timing, how extensive the invasion will be and how long the fighting will last. Second, they need to know how the stock market will react to an invasion.
Russia began invading Ukraine on February 23. For the three trading days leading up to the invasion, stocks declined. Following the invasion, stock markets increased for the next two trading days (as I write this on February 28, U.S. stock markets are down).
Vanguard Study on Geopolitical Events and Stock Market Returns
Vanguard just published a study of the link between 25 geopolitical events and subsequent stock market returns over the past 60 years. Vanguard found that “while equity markets often reacted negatively to the initial news, geopolitical selloffs were typically short-lived and returns over the following 6- and 12-month periods were largely in line with long-term average returns. On average, stocks returned 5% in the 6 months following the events and 9% in the 12 months after the events...”
Of course, past performance is no guarantee of future performance. The Ukraine crisis may be worse for the financial markets then those averages. Still, since we know so little about how the Ukraine invasion will progress and how it will affect the world economy and financial markets, it seems prudent to keep long-term investments invested.
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