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Market Timing

If you are investing in the broad equities market, your time horizon should generally be at least three years away.  If you need to draw on your investment capital earlier, it would be smarter to roll over short to medium term debt securities.  The reward/risk ratio in equities is simply not great enough for the shorter holding periods. 

Whether the investment method is formula-driven market timing or buy-and-hold, performance should be measured over the period that corresponds to your own time horizon.  What matters is the net gain when you have to liquidate your investment.  Short term ups and downs have no significance if your total portfolio is compatible with your tolerance for market volatility. 

Professional market timers claim to reduce the volatility in their customer's portfolio.  However they must move large portions of that portfolio between equities and bonds or cash to effectively accomplish the stated purpose.  Their decisions are based on various technical indicators, oftentimes  mutually contradictory.  Whether correct or not, making large changes is difficult for many investors psychologically.  Great discipline is required in following a particular market timing formula.  When losses occur, as they inevitably will, there is a strong tendency to abandon the formula.  This often makes things worse than they otherwise would have been. 

There are few, if any, professional market timers with successful long term records.  In order to promote their systems they usually quote short term results or present back-tested performance using historical market data.  Performance based on back-testing is notoriously unreliable.  The optimum parameters must be found by cut and try methods, i.e. tuning the system to old market data.  However successful technical market indicators tend to destroy their own effectiveness with use.  Thus it is not surprising that reliable indicators can seldom be found from historical data. 

Chance plays the dominant role in short term performance.  One should therefore be wary of reading significance into short term results.  Without valid long term records this presents a real dilemma to professional market timers.  Fortunately for them, there seems to be no shortage of investors who are persuaded by short term performance.  And there will always be another generation of novices who can be lured into market timing by the siren song of professionals.

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