There's a dirty little secret in the money management business where the fact that, more often than not, the huge gap between a fund's listed performance and investors' actual returns tends to get glossed over. Sure, taxes, fees and charges are a small part of the problem but the real culprit is the person looking back at you in the mirror says Lou Harvey, president and CEO of Dalbar, a Boston-based financial services research firm.
"We've looked at the effects of market timing for the last 20 years and on average these days (the cost to investors) is around 4 percentage points," he says in the attached video. In fact, his research shows that during particularly volatile periods such as 2011, the average hit to a market timer's performance nearly doubled to 7%. It's no wonder Harvey calls the problem "huge" and "very expensive."
To be fair, he doesn't eschew market timing in general, just for certain types of people. In fact, he calls the predictive practice "perfectly reasonable and viable" for short-term traders and well-heeled institutions. But if that's not you then he says the odds of buying high and/or selling low go way up.
"If a human being, an individual investor thinks they can out-time the computer and technology that the market is using in all of the high speed trading I wish them luck," Harvey says.
As his findings reveal, the core problem for the individual investor is that by the time they get a hold of a particular piece of good or bad news, "most of us will have already lost the opportunity." And it's not just stock funds that are effected because he says the fallout from faulty timing cuts across all asset classes, and is even more pronounced in declining markets.
"The big problem happens in bear markets," he says, when investors tend to hold on until they've lost a substantial amount, and then they give up. This not only cements the loss but causes an investors to miss the upturn that generally follows the bear market.
"It's the aversion to loss that drives this behavior," Harvey declares.
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