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  • Short-term trading requires discipline and a mindset few possess.
  • A buy-and-hold strategy has significantly outperformed a strategy that avoids stocks when the market trades below its 200-day moving average.
  • Missing just 10 of the best days in the market over the past 20 years resulted in substantially lower account balances.

Investors come in all shapes and sizes. There are the day traders who nimbly flip long and short, minute by minute, on one end of the spectrum, and long-haul investors who plan to buy and hold for decades on the other end. Finally, swing traders who hunt for intermediate-term trends and catalysts sit between them.

For as long as markets have existed, the two extreme ends of the spectrum have argued over which strategy is best for accumulating wealth. Those in the short-term trading camp claim their approach is best because it allows you to compound returns daily rather than annually. Those in the long-term camp say the risk associated with short-term volatility trumps that potential, making market timing less rewarding in practice than it is in theory.

While some speculators possess the mental mindset and intestinal fortitude necessary for day trading, most tilt toward the buy-and-hold camp. I’ve known many day traders, and virtually all of them have wiped out their accounts at one time or another. The short-term trading game is mentally exhausting and financially risky. Few can perform at that level for years or decades.

That's not to say buy-and-hold investing is easy. It's not. Especially in bear markets. An endless barrage of negative news can cause investors to make short-term decisions contrary to their long-term approach. When that happens, it can make achieving long-term financial goals harder.

Short-term gain, long-term pain?

In “The 'Market Timing Dream'...Remains Just That,” Real Money Pro’s Paul Price explains just how risky shorter-term, market timing decisions can be to attaining long-term financial goals.

Specifically, he compares returns associated with buying and holding the S&P 500 index against a strategy that involves selling the index whenever it dips below the 200-DMA and buying it whenever it eclipses it. He writes:

“Would that market timing have helped or hurt you over the truly long-term?...The following chart [see further below] compares the S&P 500 index sans dividends or dividend reinvest versus owning shares only when the S&P 500 was above its 200-Day Moving Average…Other than at extreme market bottoms (like 2002 and 2008) buy and hold investors were always better off than those who tried to be timely in their ownership of stocks. That was even true by a very small degree at the March 2020 nadir and for every moment since.”

There were extreme periods wherein using a 200-DMA strategy paid off. Still, generally, that strategy resulted in long-term account balances lower than a set-it and forget-it approach.

Back to Price:

“About 40% of the S&P 500's total return since 1927 was accounted for from [dividends and interest]…The chart below illustrates the only thing that really matters if you take the rest of your life as your investment time horizon…Unless you panic sold during the 2002 or 2008-09 market plunges, you are multiples ahead of market timers if you bought and held rather than used market timing techniques.”

CHART-Street-Smarts-101422-

The returns are pretty astonishing. Thanks to reinvesting dividends at lower prices, such as during a bear market when shares are trading beneath the 200-DMA, the buy-and-hold return over the past 30 years resulted in a whopping 1,576% return, trouncing the 200-DMA market timing strategy. Even if we compare returns excluding dividends, the buy-and-hold investor did 332% better than the market timer.

Data showing what happens when investors are on the sidelines for some of the market’s best-performing days illustrates market timing risks too.

J.P. Morgan found that between 2002 and 2022, missing the best ten days substantially reduced an investor's account value. For example, if someone invested $10,000 and let it sit, they’d have $61,685 on December 31, 2021. However, if they’d missed those ten days, they’d only have $28,260. Because many of the market's best days follow its worst days, shifting to cash may work short-term, but it can hamstring you long-term.

CHART-Street-Smarts-2-101422-

The Smart Play

Robert Frey, the famous mathemetician and former Managing Director of Renaissance Technologies Corp., one of the most successful hedge funds in history, analyzed nearly 200 hundred years of data. He concluded that the typical investor spends 75% of her time in a state of drawdown (account value is below its peak value). This suggests drawdown is common, and, arguably, inevitable. Moreover, it suggests most new highs in account value occur during the minority of time invested in the market.

Undeniably, deploying bear market strategies, including eliminating margin, shorting, using stop losses, and reducing beta, can reduce drawdown, helping you recapture past peak values more quickly. However, selling entirely in hopes of buying back at the right time? That’s not an easy feat.

For this reason, I’ve recommended that long-term investors take advantage of bear market weakness by increasing how much they contribute to workplace retirement accounts every pay period. Historically, every bear market has eventually laid the foundation for a move in the index to new highs. If the past is a prelude, then lowering your average cost in a market index fund or ETF by dollar-cost averaging during this bear market could put you in the best position when bulls are back in charge.

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