Mike Gayed of Pension Partners shares this chart with us:
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click for larger chart >
There are a few interesting observations about this data set:
"¢ The 10 best days account for 50% of the buy and hold performance (roughly 0.2% of the days from 1993 to August 2010).
"¢ Classic “Buy & Hold” nets $324,330.15
"¢ Missing the 10 Best Days gives up more than 50% of the Buy & Hold performance: $156,354.12
"¢ If you manage to avoid the 10 Worst Days, your portfolio more than doubles the Buy & Hold performance: $692,693.90
The lesson I take from this: It is great if you can avoid the major down days, but only if you can do so in a way that does not have you missing the major up days. If you manage to avoid all of the Worst days, but miss all of the Best days too, then your portfolio performance will be is nearly the same as straight Buy & Hold (but with additional taxes and commissions paid).
Now the reality is no one will consistently miss all the worst days — I’m the first guy to admit our 100% Cash call the day before the flash crash was dumb luck — but you can avoid being long for most of a secular bear market. If you can miss the longer downtrends, you end uop way ahead. Not drops that last days or weeks, but the secular months and quarters in the red.
That might be more challenging approach to chart — but its worth exploring . . .
I think the word “nets” in “Classic "Buy & Hold" nets $324,330.15″ is misused by the source.
Chart starts 100k and ends near 330k. Net would be 224k, right?
Kinda surprised to see this here. This “missing best day/worst day” stuff is pretty much garbage.
Basically all the best/worst days occur during bear markets (high volatility, market below 200 DMA). Few if any of the “best” days happen when the market is trending smoothly up in a non-volatile manner.
This ground was covered long ago here:
http://www.mebanefaber.com/2008/03/27/noise-the-10-best-days/
The best days in the market are nothing more than interesting statistical anomalies. The argument that missing the best days would reduce the final return of a buy-and-hold investment is true, but it also provides no information regarding the question of whether or not one can time the market. A simple moving average cross-over system will cause you to miss nearly every one of the best days and you should be happy to watch them pass by, because you'll also be missing the more-than-offsetting declines those "best" days are invariably tied to.
http://www.mebanefaber.com/2008/03/29/more-on-volatility-clustering/
Since 1951, the market (S&P500) has been above the 200 day moving average roughly 70% of the time. Roughly 70% of the best and worst days (as measured by 10 and 100 best/worst days) occurred when the market was below the 200 day moving average. The more interesting stat?
The market is roughly 50% more volatile when below the 200d sma. I touched on this topic in my paper where using the simple timing model works because it basically changes the distribution of returns. You miss the worst days, but also miss the best days.
This best day/worst day junk is a great example of how quantitative evidence can be presented in a manner that it is completely misleading.
Also from the link:
“A closer look reveals that all may not be as it first appears, that this may be a misleading characterization of market history. If so, "Don't Miss the Ten Best" could be construed as an ethical violation of both the CFP Board's Code of Ethics and Professional Responsibility (Code of Ethics), and the Securities and Exchange Commission's Rule 206(4)-1 under the Investment Advisers Act of 1940.”
Most of those crazy up or down days were at the end of 2008. Jumping in and out at the right time in those months would be impossible. But could one realistically have seen the fall coming and gotten all cash in September 08 and then also seen the the turn around to get all back into stocks in March 09. It is probably more realistic to get that sort of a timing strategy to work. But it is not for amateurs. You have to be able to fight the natural tendency to be optimistic when things are way up and pessimistic when they are way down.
Mike C is dead-on. The take-away is that volatility clusters, such that big up days (and weeks, and months) occur directly adjacent to big down days (and weeks, and months). These occur when volatility in markets is high, and generally during periods of major market dislocation.
Lots more at: http://gestaltu.blogspot.com/2010/07/jekyll-or-hyde-market.html
A key chart from the post (and a great addition to the posted chart) shows S&P performance absent the worst and best months: http://4.bp.blogspot.com/_XNmbusMmMqo/TD9CvjlgreI/AAAAAAAAAQc/PZUS6U8cOH8/s1600/091024_S%26P_Excluding_Worst_%26_Best_Months.jpg
If you look at the secular cycles that Barry mentions you will find that all major periods of catastrophic stock market loss occur in recessions during secular bear cycles. That is what is interesting to chart. And investment timing does not have to be particularly good for this to have a major impact on portfolio returns and risk. You can be out early and in late and have far higher returns with far less risk than buy and hold. To exit you can use recession indicators such as those used by Hussman or Kasriel or, if the interest rate is not up against the zero bound, you can simply use the inverted yield curve. Or, as Mike C says, you can simply be out when the market is below 200 day MA and reenter when the recession reasonably far along and the market moves above the 200 day MA. But there is no need to be in and out of the market during secular bull periods. You only need to use the 200 day moving average during secular bear cycles. And you can use the Shiller/Graham p/e to define secular bull and bear periods. Secular bull and secular bear periods – and particularly the risk of catastrophic loss is secular bear recessions – are the single biggest driver of equity risk and return. And yet they are not well understood by most professional investors let alone individual investors. We have plenty of charts that show various aspects of this entire issue. The biggest barrier to this approach for most professional investment managers is performance divergence (tracking error).
might as well just go with the “buy low, sell high” — less words, same value.
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