HAVE YOU TRIED TIMING THE STOCK MARKET?

When you first start to take trading in the stock markets seriously, your goal naturally would seem to be to buy low and then sell high.  That way you would always make money with every trade. Sounds like a great strategy until you try to put it in place.  Timing the market is very difficult.  It’s a lot like standing at the roulette wheel in Las Vegas and trying to time whether the next roll will wind up being red or black. 

A good entry point:  Profits in the stock market are often made as a result of buying in at a good entry point.  So, how do you achieve a good entry point?  A boost from an upward trending market can help, but there are many stocks that do not rise along with the tide.  If you simply buy stocks that are low hoping that they will rise, try to remember that one reason that they are low could be that other investors don’t want them.  The things I look for in an entry point include, but are not limited to, mid-range trend, short term momentum, valuation as per price/earnings, whether the stock is overbought or oversold, and whether the stock is under accumulation or distribution.  I check the company’s financials to evaluate the fundamentals, and finally, I look to see if the markets are trending well, or if they are overbought or oversold.  But even with all of this, it becomes tricky to achieve a good entry point. 

Selling too soon:  A major problem market timers will often have is selling their gainers too soon.  There is no hard and fast rule as to when is the best time to sell a winning stock.  Good advice is to have a general tendency to wait, as there could be an emotional tendency to get out with whatever gain you can.  My broker, Charles Schwab, points out that moving in and out of the market can be detrimental to overall returns since you could miss very large gains on the up days while you’re sitting on the sidelines.  In my case, I admit I’m guilty of leaving money on the table.  How much, I’ll never know.

When is a pullback imminent?:  Every trader would like to know the answer to that question.  The truth is it’s very hard to tell exactly when that will happen.  There are some technical indicators that can be of help:

            1.  Advance/decline lines.  The A/D lines signal the amount of breadth to the markets as determined by the number of advancing stocks over the number of decliners.  As long as the advance/decline line is pointed up, there is less likelihood of an imminent pullback.

            2.  Strength indexes.  There are several strength indexes that measure whether the majority of stocks in the index are either under accumulation or under distribution.  This measurement is made on the volume a stock has each day over the last 50 trading days.  If there is more volume on the up days, the stock is under accumulation.  More volume on the down days means the stock is under distribution.  If the strength index is above 50, it means that the market has more stocks under accumulation, or a sign of strength.  The opposite applies if it is below 50.  This in itself doesn’t make a good short term buy or sell signal, but it can give the trader some insight if a rally will continue or not.

            3.  Momentum indexes.  The Relative Strength Index (RSI) looks back at the previous 14 days to measure the magnitude of recent price changes.  The goal is to tell the trader if the stock or market index is overbought (70 or higher) versus oversold (30 or lower).  Overbought could foretell a pullback, or consolidation as Wall Street calls it.

            4.  Sentiment index.  There are many indicators included in the sentiment index which help to point out whether investor sentiment is either bullish or bearish.  One of the most popular is the VIX or volatility index, which is a measure of fear.  When the VIX is below 11, the market is complacent which could precede a pullback.  When the VIX is over 30, traders are fearful, and much trading activity is taking place – usually on the sell side.

            5.  Cyclical trend index.  This index works on the principle that the Dow Jones Industrial Average has a tendency to move in cycles that resemble sine waves that are measurable.  There are five cycles, each with different timing.  When analyzed together they can point to market trends extending into the future.

Impact of the bond market:  Owing to the overbought and record setting pricing in the equity markets these days, equity returns are generally lower than average.  But the appeal is still great when investors consider that the debt market returns are even worse.  These low inflation-adjusted bond rates are in essence propping up equity prices.  Therefore, market timers need to keep their eyes on bond rates as any upward changes could pull some of the support for equity prices.  Bond interest rates have different forces driving them including the Federal Reserve, Congress’s fiscal policy, and shifting foreign exchange rates.  These changes all added up are often not easily predictable, along with their impact on bond markets.

Conclusions:  In the final analysis, if there were adequate short-term trading signals that can point to changes in market direction, then everyone in the stock market would follow them.  This would push the markets to extremes of highs and lows enabling a few mavericks to maximize the condition by selling before the masses and buying in just when the prices hit bottom.  This would amount to market timing extraordinaire.  My experience has been to liquidate when a major pullback takes place, often using sell stops, to protect capital.  Then when it hits bottom, I start to buy back in.  Without a major pullback, I will raise cash up to 20 -30% (by selling) at times when the markets are very high and/or overbought.  Then when a dip sets in, I’ll check my watch list and look for good buying opportunities. 

But my best advice is this:  Never follow the herd – the herd is going to the slaughter house.

Sources:   Time Warp, Buttonwood, The Economist, January 30, 2021,

                  MarketEdge.com, Weekly letter, February 5, 2021,

                  Investopedia.com/terms