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When Should You Move Into Cash?

Occasionally, I have a client mention that they have more money to invest, but they are waiting for the right time.  Similarly, I have had clients ask me to move them to cash.  Let’s go over why, all other things being equal, you should neither wait to invest, nor ask me to move your assets out of the market and into cash.

One of the most common arguments I have seen for not trying to “time the market” is what happens if you miss a certain number of the best days in the market.  For example, according to one paper I have read if you invested $100 in the S&P 500 in December 1927 that $100 would be worth $16,828 in 2020.  But if you had missed just the 10 best days in that period you would have only $5,571, or about one third of what you would have had if you had remained invested.  Miss the best 20 days and the end result goes down to $2,393.  That makes for a pretty convincing argument for not trying to time the market, if you stop there.  

What happens if we flip that on its head and you were to be invested for that entire time except for the 10 worst days in the market?  Now, instead of $16,828, you would have $55,082!  Miss the worst 20 days and your $100 investment has grown to $130,310.  Of course, there are several fallacies in any of those scenarios.  First of all, who invests for 93 years?  And who knows when the best or worst days in the market will fall?  

There is something in the financial world called the Efficient Market Hypothesis.  According to that hypothesis, there is no way for an investor to take advantage of financial news because once news is made public, it is acted upon so quickly that if you move to capitalize on it, you will be too late.  Everybody else has acted upon it as well and your advantage is gone.  Does that hypothesis correspond with reality?  If it did, you would expect to see stock prices make large moves in one or two days and then remain relatively stable until the next bit of news comes out.  Is that what happens?   Look at the attached chart of the S&P 500 over a 10 period.  What that chart tells me is that the market moves in trends.  It certainly has days when there are large movements, but they, typically, are part of an overall trend.  I have read the arguments against timing the market, but it has never been clear to me the difference between market timing and what every active investor does, i.e., to make moves as the market reveals opportunities and risks.  You will never be able to foresee in advance the best or worst days in the market.  So, what do you do?  The answer is not to invest $100 and wait 93 years.  Nor is it to pull your money out the day before the worst days.  

Every morning, I look to see what the market is doing as well as the individual stocks we are holding in our portfolios.  I do not try to predict what the market will do, but I do try to identify trends as they develop.  Rather than try to predict the future, I try to observe what is happening in the market in general as well as our specific investments.  Then I react to those trends.  If I have been instructed to move you to cash, or if you have cash in the bank that you are waiting to invest, you have tied my hands.  If, on the other hand, that money is in your account and I have a free hand with it, I will be waiting for indications that the time may be right to invest.  Up until that time, your money remains in cash or the money market account.  But when the time is right, I am in a position to put the money to work, or I am able to sell a position and move the proceeds to cash when that looks like the right move.  This process is as much art as science and we will not capture all of the best days nor miss all of the worst days, but we should be able to ride the trend when it is favorable and get defensive when it is not.


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