Market timing: Should I go to all cash?

Alex Pudlo,

Every four years, largely as a result of the impending election, I get the same question from clients and nonclients alike: “Should I move to an all-cash position? I’m worried that XYZ will happen.”

Hopefully, by this point in the relationship with your wealth management professional, you’ve reviewed the well-known charts that show what happens when an investor sits out the best days of the market. Numerous research outlets and brokerages have published pieces on the topic; Googling that italicized sentence will get you to at least some of them. The numbers might vary slightly, but the basic gist is, if you miss the best 10 days over a roughly 20-year period, your annualized returns would be cut in half. Miss the best 20 days, and you go from positive returns to negative.

Of course, no one wants to miss the BEST days of market returns; we want to miss the WORST days. Unfortunately, most of the best and worst days occur very close to one another. According to J.P. Morgan, six of the best 10 days occurred within two weeks of the worst 10 days.

That means that a person would have to forecast those bad days to within a very short period of time. Now, an investor’s success here is dependent on several assumptions:

  • They can forecast good and bad days with better than 50% accuracy.
  • They have the availability to act on those assumptions within the amount of time that the events occur that actually drive those market returns.
  • They can effectively trade in and out of the market completely in that time.

I’ll admit that, in isolation, each of these three critical elements is possible. If you are truly honest with yourself, though, do you want to bet significant sums of money on your chances?

By the way, if you can truly predict the market’s good and bad return days with better than 50% accuracy, there are plenty of job openings for you as a high-level financial professional with enormous salaries and bonuses.

This all serves to drive home my point: I consider attempting to time the market to be a “fool’s errand” and entirely counter-productive. So, what is a better path? Bucket and diversify.

That’s it. First, segment, or “bucket,” your money into dedicated amounts for specific purchases or purposes. For an example, start with these categories:

  • Emergency/opportunity fund;
  • One year’s expenses;
  • Income in retirement (if retired or near retirement):
    1. Income for years 1–3
    2. Income for years 4–7
    3. Income for years 8–10
    4. Income for years beyond 10
  • Retirement savings (if 10-plus years from retirement);
  • Specifically timed expenses (e.g., new car, wedding, house down payment); and
  • Estate planning/inheritance/gifting to next generation.

Now you can invest confidently with specific subportfolios that are allocated to investments appropriate to those specific time frames, and you can diversify the investments contained in each subportfolio.

If you aren’t going through this exercise prior to setting up your portfolio, your portfolio manager is severely disadvantaged — they do not have the information they need to truly help you to both invest with confidence and weather market volatility.

If you have not had this conversation with a wealth management professional, I hope you will.

Alex Pudlo, CFP, ChFC, is a trust officer on the Wealth Management Team at State Bank of Cross Plains.

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