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There is nothing like a bit of volatility to undermine investor confidence but how we react to uncertainty in the markets can have a huge effect on the value of our portfolios. Faced with yo-yoing markets, investors can largely choose from one of two strategies: either try and time the markets or take a long term view and hold on to investments. Let’s compare the two:
This approach means that investors will seek to take risks and invest when they expect markets to rise in order to capitalise on the upside, while attempting to avoid downside damage when they expect markets to fall by selling and converting investments to cash.
A buy and hold strategy involves selecting stocks – preferably with a well thought-out asset allocation – and holding them for a long time on the basis that, in the long run, financial markets will offer a good rate of return regardless of periods of short-term volatility.
At Infinity we almost always advocate the latter approach, obviously coupled with regular reviews and possible rebalancing of assets as required. However, right now, with volatility the watch word of 2016, clients are struggling to keep their eye on the long term and are increasingly tempted to cut their losses and sell.
Here’s why, although the markets are undeniably going through a difficult period, we still believe that holding on to stocks is the best thing for most investors to do.
Statistics have proved that the more time that you are invested in equities, the more chance you have of achieving a positive return and the higher that return is likely to be.
An analysis of figures over the century from 1900 to 2000 shows that while returns for individual years were negative approximately one third of the time, the average return over the whole period was 6.7%.
The same is true of a more recent 15 year period, as illustrated by this graph.
There are some big peaks and troughs, most notably in 2008 during the global financial crisis, but a buy and hold strategy over this decade and a half would have given an annualised return of just over 4% although with compounding, the return would have been 80%.
It is a simple fact that no-one can consistently invest with perfect timing. You may get lucky sometimes but the benefits of getting your timing right on those rare occasions are far less than the price you pay when you get it wrong.
Our investment partners at Tilney Bestinvest have a whole team of expert researchers analysing performance. They estimate that over the last 30 years, 90% of returns were made on just 0.4% of trading days. Are you confident enough to believe that you are going to be able to time your investments to benefit from those tiny windows of opportunity?
History tells us that the best days in the market tend to follow some of the worst. That means that if you panic sell because markets are falling, you are very likely to miss out on the upside which could follow. Have a look at this table which shows average return on the best 10, 20 and 30 days over the last 30 years and the return the previous day:
It is clear that resisting the urge to sell when the chips are down is likely to be the wisest course of action.
As this table shows, there is quite a high risk of making a loss over a short time period but the longer you keep hold of your stocks, the lower the risk becomes falling from 33% in year one to just 9% in year 10.
These four compelling reasons should reassure you if you are feeling jittery about your investments. The fact is that while a lot of investors who buy and hold succeed, the majority of those who try timing the markets fail. That’s why in the vast majority of cases keeping your eye on long term investment horizons and avoiding the noise in the markets is the best way to manage your portfolio.
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