"If you want to make money, really big money, do what nobody else is doing. Buy when everyone else is selling and hold until everyone else is buying. This is not merely a catchy slogan. It is the very essence of successful investment." - J. Paul Getty
The topic of trend following, and our MarketVANE strategies in particular, are obviously central to many of our conversations with clients. We field many questions about the potential value-add of a tactical allocation strategy over a more static buy-and-hold approach, and our process can even be confused with what is traditionally referred to as “market timing.” Common objections point to the fact that the US stock market has never had a negative return over a rolling 20 year period and that the US stock market has outperformed all major asset classes such as real estate, bonds, and cash over the long-term. While both of these statements are indeed true, we disagree with the conclusion that the best investment for the long-term should therefore be a buy-and-hold portfolio of just US stocks.
There are several reasons why the buy-and-hold gospel has gained so much popularity over the past several decades. For starters, this period of time has been one of incredible success and prosperity for our country. Over the past century and a half, the United States has grown from an emerging economy to the wealthiest and most powerful country on earth, which has equated to tremendous performance for the US stock market. We readily admit that most investors over this time period would almost certainly have been better served putting their money into the market and leaving it there versus trying to time the market by predicting tops and bottoms based on their conviction or gut level intuition.
To solidify this point, the most recent publication of DALBAR’s annual Quantitative Analysis of Investor Behavior found that over the past 30 years average investor returns in US equity mutual funds have lagged the S&P 500 by more than 6.5% a year (3.66% vs. 10.35%). The study stated that “investor behavior is the number one cause” of the underperformance. The conclusion many drawn from this type of analysis is that one should never try to time the market. But going one layer deeper, the real conclusion from this study is that following one’s gut conviction based on changing sentiment/emotions is detrimental to long-term investment returns. That conclusion still leaves room for investment strategies which systematically manage risk by being in and out of the market based on mathematical approaches that are disciplined and reactionary rather than being predictive in nature.
The surface layer conclusion (e.g. all market timing is bad, therefore buy-and-hold is the only answer) is the one many academics and financial professionals have adopted, but there are several problems with this conclusion.
Ultimately, there are a number of different ways to solve the retirement puzzle. Buy-and-hold investing is one perfectly legitimate strategy, but it is not a one-size-fits-all solution that every investor should follow. The proliferation of this investment philosophy, which has become borderline gospel in some circles, stems from the fact that it is easy to implement and manage, which consequently is something that comes in handy for a financial professional trying to manage hundreds if not thousands of client accounts.
At Season Investments we have chosen to borrow a page from the investment playbook of the ultra-wealthy and institutional investment community who spread their investments across multiple asset classes in addition to the stock market and actively manage risk. This style of investing can take on many shapes and forms, but for us it is informed by the humility of admitting that we can’t predict the future returns of any asset class. This is why we invest in more than just stocks and bonds (Diversification 2.0) and rely heavily on quantitative techniques (MarketVANE) which reduce the Cost of Being Human, thereby reducing the impact emotions can have on our investment performance.
J. Paul Getty’s opening quote is a perfect example of how the ultra-wealthy think in terms of investing, stating that there are both times to buy and times to sell financial assets. This, by the strictest definition of the phrase, might be considered market timing. By the same token, trend following techniques such as MarketVANE may also be considered a form of market timing. But unlike many investors who are trying to time the market by predicting the future based on gut level convictions, trend following simply reacts to changes in price to get in-line with the prevailing trend. Another word for trend following is momentum investing, which various academic studies have shown is able to add excess returns to a passive investment strategy similar to value or small-cap investing. In conclusion, the phrase market timing has become a dirty word in investing, but be careful not to throw the baby out with the bathwater. As the saying goes, the devil is in the details.
Author Elliott Orsillo, CFA is a founding member of Season Investments and serves on the investment committee overseeing the management of client assets. He spent nearly ten years as a financial analyst and portfolio manager working primarily with institutional clients prior to co-founding Season Investments. Elliott earned a bachelor's degree in Engineering from Oral Roberts University and a master's degree from Stanford University in Management Science & Engineering with an emphasis in Finance. Elliott and his wife Gigi have three children and like to spend their time outdoors enjoying everything the great state of Colorado has to offer.
Transparency is one of the defining characteristics of our firm. As such, it is our goal to communicate with our clients frequently and in a straightforward way about what we are doing in their portfolios and why. This information is not to be construed as an offer to sell or the solicitation of an offer to buy any securities. It represents only the opinions of Season Investments. Any views expressed are provided for informational purposes only and should not be construed as an offer, an endorsement, or inducement to invest.