Successful Market Timing is an Urban Legend


by Eric D. Nelson, CFA

Talk to enough investors and you’ll find one or more who claim they were able to largely sidestep the market losses from 2008 only to get back into stocks early on in the recovery.  Of course, what people say, and what actually happened, are often two different things.


Let’s look at a hypothetical example of a well-executed market-timing maneuver from the 2008/2009 market meltdown and subsequent recovery.  Our market timer held the S&P 500 Index as their stock allocation, and stayed with it until October of 2008 when they decided to bail out.  At that point, they saw the writing on the wall—the economy had nowhere to go but down, and would be dragging the stock market along with it.  And right they were!  Over the next four months, stocks plunged another 25%, bringing the cumulative losses on the S&P 500 Index from November of 2007 through February of 2009 to over 50%.  Sure, the market timer lost some money (-36% through September of 2008), but it could have been much worse.


On the flip side, the market timer wasn’t able to perfectly predict the turnaround in March of 2009, but after a few months it became clear it was safe to get back into the market.  So just six months after the worst stock market decline since the Great Depression, the market timer jumped back into stocks in September of 2009.


Through July of this year, our hypothetical market timer might have been feeling particularly smug.  After avoided about 30% of the market sell-off in late 2008/early 2009, their portfolio had recovered all of its losses and would be worth $1.15 for every $1 they had before the downturn.  Certainly this would have been preferable to doing nothing and taking the full brunt of the market decline with a "buy and hold" approach, right?


Table 1 compares the results from our hypothetical market timer with an investor who held a balanced asset class portfolio spread across US large growth stocks, US large value stocks, US small value stocks, and short-term fixed income (65% stocks, 35% bonds).  Our asset class investor instead opted for broad diversification and stayed disciplined throughout the entire period, rebalancing their portfolio back to target every January 1st (meaning they actually sold bonds and bought more stocks in early 2009!).


Table 1: Periodic Returns (11/07 through 7/13)

Hypothetical Strategy

% Bear Market Loss

Growth of $1 from Nov 2008 through July 2013


-36.1% (through 10/08)


65/35 Balanced US Asset Class Mix

-37.5% (through 2/09)


S&P 500 Index

-51.0% (through 2/09)



Surprising to many, the market timer did not actually come out ahead of either the “65/35 Balanced US Asset Class Mix” or the S&P 500 Index.  And while they might claim a moral victory over the S&P 500—losing less during the downturn and therefore experiencing less anxiety along with lower returns, the same cannot be said for the Asset Class Mix.  The diversified balanced portfolio not only had comparable losses to the market timer (-37.5% to -36.1%) despite holding a portion of stocks throughout the entire bear market, it emerged with over twice as much wealth for the total period.  While the market timer had $1.15 for every $1 invested on November 2007, the 65/35 Balanced US Asset Class Mix had $1.37.


But maybe we’re being unfair to the market timer.  What if it didn’t take them six months to re-enter stocks?  What if they got back in in August of 2009?  $1 would have grown to $1.19.  What about July?  $1.28.  It turns out, in order to achieve the same level of wealth as the 65/35 Balanced US Asset Class Mix over the entire period, the market timer had to get back into stocks just two months after the downturn ended in May of 2009!  And anyone with the faintest memory of early 2009 remembers that while stocks had two strong months of gains in March and April, there was absolutely no indication the worst of the downturn was behind us.  So that surely didn’t happen.


After the fact, it’s not uncommon to hear heroic stories of investors with perfect prescience in 2008—getting out of stocks prior to the worst of the decline, only to jump back in early on and participate in almost all of the recovery.  Upon further inspection, it turns out even a well-orchestrated entry and exit from stocks would not have proved profitable on a risk-adjusted basis compared to a more balanced asset class portfolio that was simply held and rebalanced periodically through the ups and downs.  As is so often the case, 2008 reminds us the legend of successful market timing is more of an urban legend.



source of data: DFA Returns 2.0


65/35 Balanced Asset Class Mix = 19.5% DFA US Large Company Fund (DFUSX), 19.5% DFA US Large Value Fund (DFLVX), 26% DFA US Small Value Fund (DFSVX), 35% DFA 5YR Global Fixed Income Fund (DFGBX); rebalanced annually.


Past performance is not a guarantee of future results.  The returns and other characteristics of the allocation mixes contained in this article are based on model/back-tested simulations to demonstrate broad economic principles.  They were achieved with the benefit of hindsight and do not represent actual investment performance. There are limitations inherent in model performance; it does not reflect trading in actual accounts and may not reflect the impact that economic and market factors may have had on an advisor’s decision-making if the advisor were managing actual client money. Model performance is hypothetical and is for illustrative purposes only.  Model performance shown includes reinvestment of dividends and other earnings but does not reflect the deduction of investment advisory fees or other expenses except where noted. Clients’ investment returns would be reduced by the advisory fees and other expenses they would incur in the management of their accounts.  Past performance is not a guarantee of future results, and there is always the risk that an investor may lose money.  Indexes are not available for direct investment.