Practical Tips on Market Timing

What is market timing? How does it work? Is it at all possible? What aspects of the theory should you consider for your actual share trading? Those are questions that we will talk about today.

What is Market Timing?

Market timing is when you try to buy shares when they just dropped to a minimum and sell when they reached a maximum. The challenge here obviously is that you only know the price development of the past, but not how the future price development looks like. Therefore, you need to forecast when the direction of the stock price changes. Techniques to forecast such changes are usually based on the chart itself, looking for corridors, trend lines, support zones, chart tops etc.

Traditional market timing involves both, buying shares and selling them again. It is therefore a rather short- to midterm strategy to investing.

If you are following my blog, you will know that I prefer a buy and hold strategy. That means that I am usually not selling shares that I once bought. Exceptions would only come from fundamental, strategic changes. Therefore, when I talk about market timing, I refer to the act of buying, but not to the selling part. However, I believe that both aspects of the strategy are technically quite similar.

Does Market Timing Work? Is it Worth it?

For most people it does not. The rate of successfully forecasting the future development of share prices is just too low for that. As also pointed out by this study “What is market timing“, the factor of lost time has to be considered as well. The longer you wait with cash in your hands for the optimal moment to invest into shares, the longer your money does not work for you. Besides, a quite surprising finding of the study is that investing all your money (that you want to invest) as soon as you are able to, is almost as good as waiting for an optimal time to invest within the following 12 months.

The Risk of Market Timing

Regardless of whether you invest your available money at once or whether you try to anticipate the best point in time and then go all-in – both approaches inherit a substantial risk. From a time perspective, you put all your eggs into one basket. We all know that it is very risky to only buy one or two shares, but why do people do the same mistake when it comes to timing?

The solution is easy and is called cost-averaging. It implies that you spread your intended investments over a period of time to minimize the risk that you just bought at a high and just before the market crashes.

What Should you Do?

Let´s put the different aspects of above together:

  1. Do not try to find the best time to invest – it is hardly possible
  2. Do not invest all your available money at once – if you are unlucky, you may regret it
  3. Reduce the risk of wrong timing by using the cost-average effect, investing in smaller portions at different points in time
  4. However, do not spread over a too long time period, because holding cash for a longer time period instead of investing it is by far the worst option
  5. Lastly: Consider transaction fees. If your trading depot is at a traditional bank, chances are that the fees per transaction are rather high. You might not want to kill your profits with a high amount of accumulated transaction fees.

What do I do? In fact, I think it makes sense to focus on cost-averaging, but always trying to keep an eye on market timing as well. I am monthly investing in shares. However, when I feel that the market could be at a high, its perhaps only half of the money. If I think it is a good time or if the cash amount exceeds a particular threshold, it might be double the amount. With that strategy, I can cost-average my investments, I do not wait too long to get the money working, and I can also benefit from most likely good investment times.