SMART MONEY DIARY
Superior Market Timing
or When Is the Right Time To Invest?
Definition of Market Timing
What exactly is market timing? Timing the market refers to a method in which investors attempt to buy when the market is at its lowest level and sell when it is at its highest. Sounds logical, but in practice, market timing is almost impossible and does not deliver the expected additional profit. When it comes to investing, emotions play a significant role in determining an investor's market timing decision.
How Well Does Market Timing Work?
Most private investors either stay out of the market because they think it is "too high" or "too expensive" - or rush in to take advantage of a bargain. Scientist have discovered plenty of evidence showing both private and professional investors perform horribly when it comes to timing the market. Nobody knows when markets will recover if they begin to tumble. As a result, the chances of missing the market's comeback are extremely high. Please check out the Smart Money Diary blog article "Superior Market Timing - When Is the Right Moment to Invest?" for a deeper look into the challenges related to market timing.
Lessons learned from that: for most investors, a simple buy-and-hold approach based on low-cost ETFs should be more rewarding.
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Because a wise investor want to benefit from 2 major effects:
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The Compound Interest
Compound interest describes a method of investing interest gained on an investment so that the interest generated on the original investment produces extra interest in the future. This can lead the investment to grow exponentially rather than linearly, as in simple interest.
For example, if you invest $1000 at a 5% annual interest rate compounded monthly for ten years, the future value of the investment would be $1628.89, once compound interest is applied.
Compound interest is a powerful tool for accumulating wealth over time as it can accelerate growth of investments. However, keep in mind that the effect of compound interest depends on the size of the investment, the interest rate, and the frequency of compounding. The longer the investment is held, the more impactful compound interest can be.
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Dollar Cost Averaging
Dollar cost averaging is an investment strategy where an investor divides a fixed amount of money into equal parts and invests that money in a particular asset at regular intervals, regardless of the asset's price. The idea behind this strategy is to reduce the average cost per unit of the asset by buying more units when the price is low and fewer units when the price is high.
For example, if an investor wants to invest $10,000 in a stock and wants to use the dollar cost averaging strategy, they might invest $1,000 in the stock each month for 10 months. This way, if the stock price goes up in the first month, the investor will purchase fewer shares, and if the stock price goes down in the following month, they will purchase more shares. Over time, the average cost per share should be lower than if the investor had invested the entire $10,000 in the stock at one time.
Dollar cost averaging can be a useful strategy for investors who are unsure about market conditions or who have a long-term investment horizon, as it can help to reduce the impact of short-term market volatility on their investments. Additionally, by investing a fixed amount of money at regular intervals, dollar cost averaging can help to take the emotion out of investing and encourage a disciplined investment approach.
Therefore, it is wiser to invest continuously via saving plans and to stay in the market for the long term in order to benefit from both the compound interest effect and dollar cost averaging.
If you are still having doubts, don't forget to check out in the short video at the end how even Bob, the worst market timer ever, was doing over the long run.
"Compound interest is the eighth wonder of the world. He who understands it, earns it; he who doesn't, pays it"
Albert Einstein
Short video explaining compound interest:
If you are not familiar with the dollar cost averaging, check out the following short video:
In case you are still hesitating to place the buying order, have a look what happened to the unlucky guy in the video below who only invested at market peaks but never sold a single unit...
When Is the Right Time To Invest? ALWAYS!
Conclusion: The answer to the question "Does market timing work?" or "Does market timing improve returns?" is simply no. However, maintaining discipline during market turmoil and routinely saving into a globally diversified portfolio based on low-cost ETFs is helpful to portfolio performance in the long run.