Does Market Timing Work?
- Mark Fonville, CFP®
- 12 hours ago
- 9 min read
Does market timing work?
This question has intrigued investors for decades as they seek ways to maximize returns and minimize losses.
Market timing—the strategy of moving in and out of the market based on predicted future market movements—promises the allure of buying low and selling high.
Picture this: It's March 2020, and the stock market has just plummeted over 30% due to COVID-19 concerns. Your retirement account has taken a significant hit. Your neighbor confidently tells you they sold everything in February, avoiding the crash entirely. They're waiting for the "perfect moment" to get back in.
Before you keep reading, be sure to download our free retirement cheat sheets to potentially help you save money, reduce taxes, and optimize your portfolio for retirement.
Meanwhile, you're wondering if you should follow suit or stay invested.
This scenario plays out repeatedly during market volatility, tempting even disciplined investors to try their hand at market timing.
This scenario plays out repeatedly during market volatility, tempting even disciplined investors to try their hand at market timing. According to Dalbar's Quantitative Analysis of Investor Behavior (QAIB) research, which has studied investor behavior since 1994, the average equity fund investor consistently underperforms the S&P 500 index by a significant margin over long periods, with this performance gap largely attributed to poor market timing decisions and emotional investing behavior.
At Covenant Wealth Advisors, we frequently counsel clients who are contemplating market timing strategies.
The question remains: Does market timing actually work, or does it create more harm than good for long-term investors?
Key Takeaways
Market timing attempts to predict future market movements but faces significant challenges due to market efficiency and unpredictability.
Historical evidence shows that most professional market timers consistently underperform passive investment strategies over long periods.
Missing just a few of the market's best days can dramatically reduce long-term returns.
Emotional biases like fear and greed often lead to poor timing decisions.
Tax implications and transaction costs further reduce the potential benefits of market timing.
Successful market timing requires being right twice—when to exit and when to re-enter the market.
Alternative strategies like strategic asset allocation and dollar-cost averaging may yield better results for most investors.
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What Is Market Timing?
Market timing is the strategy of making investment decisions—buying or selling securities—based on predictions about future market price movements. The goal is simple: be in the market during uptrends and out during downtrends.
Proponents of market timing use various tools to guide their decisions, including technical analysis (studying price charts and patterns), fundamental analysis (evaluating economic indicators and company financials), and sentiment indicators (gauging investor psychology).
"The appeal of market timing is understandable," says Scott Hurt, CPA, CFP® at Covenant Wealth Advisors in Richmond, VA. "Who wouldn't want to avoid a major market collapse while only capturing the upside? Unfortunately, the evidence suggests this approach is more likely to harm rather than help most investors' long-term returns."
Market timers typically rely on one of three methods:
Tactical asset allocation (making shorter-term adjustments based on market outlook)
Technical timing (using chart patterns and technical indicators)
Fundamental timing (basing decisions on economic data and valuations).
The Historical Track Record of Market Timing
The historical performance of market timing strategies tells a compelling story. According to research from S&P Dow Jones Indices through their SPIVA (S&P Indices Versus Active) Scorecards, the majority of active fund managers consistently fail to beat their benchmarks over longer time periods.
Their data shows that as time horizons lengthen, the percentage of underperforming active funds typically increases, suggesting that even professional managers with vast resources struggle to time the market successfully.
A landmark study by professors Brad Barber and Terrance Odean titled "Trading Is Hazardous to Your Wealth" examined the trading records of over 66,000 households and found that the most active traders significantly underperformed the market.
Their research documented that individual investors who trade frequently tend to earn lower returns than the overall market, with this performance gap often widening during volatile market periods.
Additionally, analyses of market timing newsletters and services typically show poor long-term results compared to simple buy-and-hold strategies, further suggesting that systematic market timing is extremely difficult to execute successfully over extended periods, as documented by Index Fund Advisors research.
Pro Tip: Instead of trying to time the market, consider working with a financial advisor to develop a personalized investment plan based on your time horizon, risk tolerance, and financial goals. This approach removes the guesswork and emotional decision-making that often plague market timers.
The Cost of Missing the Market's Best Days
One of the most significant risks of market timing is missing the market's best days, which often occur during periods of high volatility—sometimes even during bear markets.
Research from Clearnomics has analyzed S&P 500 returns and found that missing just a few of the market's best days can dramatically reduce long-term returns.
Their analysis shows that over a 25-year period, missing just the 10 best market days reduced annualized returns significantly compared to staying fully invested. What makes market timing particularly challenging is that many of the market's best days occur shortly after its worst days, often within a two-week period, as reported by The Motley Fool.
Consider an investor who put $1,000 in the S&P 500 index and remained invested over a 25-year period, according to Clearnomics research,
A fully invested strategy would have grown to approximately $4,477
Missing just the 10 best days would have yielded only $1,993
Missing the 20 best days would have yielded about $1,159
This dramatic difference illustrates the high cost of being out of the market during critical periods.
Psychological Barriers to Successful Market Timing
Human psychology presents perhaps the greatest obstacle to successful market timing. Our brains are wired with biases that work against us in investing.
Fear and greed drive many timing decisions. When markets decline sharply, fear often leads investors to sell after much of the damage is already done. Conversely, greed or FOMO (fear of missing out) can drive investors back into markets after significant rallies have already occurred—buying high and selling low, the opposite of successful investing.
Confirmation bias leads us to seek information that confirms our existing beliefs while ignoring contradictory evidence. An investor convinced a market crash is imminent will focus on negative news while dismissing positive economic indicators.
Recency bias causes us to overweight recent events in our decision-making. After a prolonged bull market, investors may become complacent about risk; after a crash, they often become excessively cautious.
"If you are looking for someone to blame due to your investment strategy not working, try looking in the mirror. It's probably you." notes Matt Brennan, CFP® at Covenant Wealth Advisors in Reston, VA. "It's nearly impossible to remove emotion from making prudent investment decisions. Our emotional reactions to market movements often lead to poor timing decisions that can significantly impact long-term performance."
The Tax and Transaction Cost Problem
Even if investors could perfectly predict market movements (which evidence suggests they cannot), tax implications and transaction costs would still erode returns from market timing strategies.
Frequent trading generates short-term capital gains, which are typically taxed at higher rates than long-term gains.
For high-income investors, the difference can be substantial—potentially 20% or more when accounting for federal and state taxes.
Transaction costs, while lower than in previous decades, still impact returns—especially for frequent traders. These costs include bid-ask spreads, brokerage commissions (where applicable), and market impact costs when trading larger positions.
For a high-net-worth investor in a high tax bracket, these combined costs can easily reduce returns by 1-2% annually—a significant drag that compounds over time.
Pro Tip: If you're concerned about market volatility, consider implementing a tax-efficient defensive strategy rather than moving to cash. Options include increasing allocations to lower-volatility assets, using tax-loss harvesting opportunities, or implementing options strategies that provide downside protection while maintaining market exposure.
Alternatives to Market Timing
Rather than attempting to time the market, investors can employ several proven strategies that offer better odds of long-term success:
Strategic Asset Allocation: Developing a diversified portfolio based on your risk tolerance, time horizon, and financial goals provides a framework that doesn't rely on market predictions. Research shows that asset allocation explains over 90% of portfolio return variability over time.
Dollar-Cost Averaging: Investing fixed amounts at regular intervals automatically buys more shares when prices are low and fewer when prices are high. This disciplined approach removes the guesswork of market timing.
Systematic Rebalancing: Periodically adjusting your portfolio back to target allocations helps maintain your desired risk level while potentially enhancing returns through a disciplined buy-low, sell-high approach.
Core and Satellite Approach: Maintaining a core portfolio of passive investments while using a smaller portion for tactical opportunities can satisfy the desire for active management without risking your entire portfolio.
These alternatives provide the structure and discipline that market timing lacks, typically leading to better long-term outcomes for most investors.
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FAQ About Market Timing
Has anyone consistently succeeded at market timing?
While some investors and fund managers have had periods of successful market timing, virtually none have demonstrated consistent success through skill over decades. Even renowned investors like Warren Buffett advocate against market timing for most investors.
What are the warning signs of a market timing strategy that's likely to fail?
Be wary of strategies that claim to predict exact market tops and bottoms, rely heavily on past patterns repeating exactly, or promise returns significantly above market averages with lower risk. These claims typically don't withstand scrutiny.
Is there ever a good time to adjust market exposure?
If stock have gone up and your portfolio stock exposure is overweight to your target allocation, then you may consider rebalancing your portfolio back to your intended target. Conversely, if stock markets drop, your stock exposure may be lower than intended which could be a time to sell less risky assets and by more stocks.
How does market timing affect retirement planning?
For retirees, failed market timing can be particularly damaging due to sequence-of-returns risk. Selling during market downturns can permanently impair a retirement portfolio, especially when withdrawals are being taken simultaneously.
What's the difference between tactical asset allocation and market timing?
Tactical asset allocation involves making modest, disciplined adjustments to portfolio weightings based on relative valuations and economic conditions. Unlike pure market timing, it typically maintains market exposure while tilting toward areas with better risk/reward profiles.
Conclusion
Does market timing work? The evidence overwhelmingly suggests that for most investors, the answer is no.
The combination of efficient markets, the difficulty of predicting short-term movements, psychological biases, tax implications, and transaction costs creates nearly insurmountable barriers to successful market timing.
The most reliable path to long-term investment success remains a disciplined approach focused on proper asset allocation, diversification, regular investing, and periodic rebalancing. These strategies may not offer the excitement or theoretical upside of perfectly timing market moves, but they provide something far more valuable: realistic odds of achieving your financial goals.
Financial markets will always experience periods of volatility and uncertainty. Rather than trying to predict these movements, focus on building a portfolio that can weather various market conditions while keeping you on track toward your long-term objectives.
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About the author:
CEO and Senior Financial Advisor
Mark is the CEO of Covenant Wealth Advisors and a Senior Financial Advisor helping individuals age 50+ plan, invest, and enjoy retirement comfortably. Forbes nominated Mark as a Best-In-State Wealth Advisor* and he has been featured in the New York Times, Barron's, Forbes, and Kiplinger Magazine.
Disclosures: Covenant Wealth Advisors is a registered investment advisor with offices in Richmond, Reston, and Williamsburg, VA. Registration of an investment advisor does not imply a certain level of skill or training. Past performance is no guarantee of future returns. Investing involves risk and possible loss of principal capital. The views and opinions expressed in this content are as of the date of the posting, are subject to change based on market and other conditions. This content contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected. Please note that nothing in this content should be construed as an offer to sell or the solicitation of an offer to purchase an interest in any security or separate account. Nothing is intended to be, and you should not consider anything to be, investment, accounting, tax, or legal advice. If you would like accounting, tax, or legal advice, you should consult with your own accountants or attorneys regarding your individual circumstances and needs. This article was written and edited by a CERTIFIED FINANCIAL PLANNER™ professional with the assistance of AI. No advice may be rendered by Covenant Wealth Advisors unless a client service agreement is in place. Hypothetical examples are fictitious and are only used to illustrate a specific point of view. Diversification does not guarantee against risk of loss. While this guide attempts to be as comprehensive as possible but no article can cover all aspects of retirement planning. Be sure to consult an advisor for comprehensive advice.