2021_05_31 — “If Not Now, When? Thinking Long-Term: Peter Lynch’s Market Timing Study Revisited”

INVESTMENT PHILOSOPHY

If Not Now, When? Thinking Long-Term: Peter Lynch’s Market Timing Study Revisited

SUMMARY

  • Market timing is difficult and obsessing about it may be unwarranted for the consistent long-term investor
  • Famed mutual fund manager Peter Lynch conducted a study that is often cited by investment professionals — to demonstrate that market timing is “a waste of time” — but he never publicly provided numerical details nor backup; this article conveys real-world numbers on Lynch’s concept by replicating it with modern exchange traded funds (ETFs) across recent decades
  • From 1994 to 2020, the annual-return difference between the absolute worst-timed unlucky investor, the absolute best-timed lucky investor, and a start-of-the-year investor in an S&P 500 fund was 8.7%, 10.2%, and 9.6% respectively-an annualized difference of only 1.5% between the worst-timed and an omniscient best-timed investor[i]
  • More-volatile markets will accentuate the difference between the unlucky investor and the omniscient lucky investor
  • Where one invests — i.e., which broad-based stock index one chooses to track — may be more critical than when one invests
  • Having a consistent financial plan and sticking to it is a critical component of long-term investing

DETAILS

Background — Peter Lynch’s original mid-1990s study:
People want to buy low and sell high, or more specifically, over a given period, people desire to purchase their investments at the lowest price possible and sell them at the highest price possible
and then frequently repeat this magic formula to increase wealth. Most people, however, realize how absolutely difficult perfect market timing is. More commonly, investors worry not so much about perfect timing, but rather about buying a little too early[ii] if an investment’s price has been on a downtrend, or buying near the top over a given period if an investment’s price has been in a flat or uptrend[iii]. People dislike the feeling of being wrong in the short[iv]- to medium-term; that is, seeing lower prices in the days[v] or weeks after an investment purchase.

  1. Investor 1, with the unluckiest market timing, invests into a fund consistently at the closing price on the day of the highest closing price of the year, and continues to own each investment purchase (i.e., does not sell). We will call Investor 1 “Unlucky Investor”
  2. Investor 2, with perfect market timing, invests into a fund consistently at the closing price on the day of the lowest closing price of the year, and continues to own each investment purchase (i.e., does not sell). We will call Investor 2 “Lucky Investor”
  3. Investor 3 invests into a fund consistently at the closing price on the first business day of every year, and continues to own each investment purchase (i.e., does not sell). We will call Investor 3 “SOY (start-of-year) Investor”
  1. SPDR S&P 500 ETF Trust, ticker symbol SPY, tracks the S&P 500 Index — a U.S. equity index of large-capitalization stocks; it has an expense ratio of 0.095%
  2. iShares Russell 3000 ETF, ticker symbol IWV, tracks the Russell 3000 Index — a U.S. equity index of large-, mid-, and small-capitalization stocks; it has an expense ratio of 0.20%
  3. Invesco QQQ Trust Series 1, ticker symbol QQQ, tracks the NASDAQ-100 Index — a U.S. equity index of the largest non-financial companies by market capitalization listed on NASDAQ; it has an expense ratio of 0.20%
Notes: The different time periods do not make the return differences truly comparable. Performance numbers are rounded to two decimal places. All returns are gross of (do not include) transaction costs, taxes, and fees; however, return calculations do assume dividend reinvestment and include the inherent expense ratios of the respective ETFs. Underlying data is sourced from Appendix Tables A, B, and C for SPY, IWV, and QQQ respectively.
Notes: The different time periods do not make the return differences truly comparable. Dollar numbers are rounded to the nearest whole dollar. All returns are gross of (do not include) transaction costs, taxes, and fees; however, return calculations do assume dividend reinvestment and include the inherent expense ratios of the respective ETFs. Underlying data is sourced from Appendix Tables A, B, and C for SPY, IWV, and QQQ respectively.
Notes: Across all three graphs, in especially volatile market years like 2008 and 2020, the spread between the low price and the high price tends to be larger than average. Additionally, as price levels increase, a 20% swing in prices is larger in absolute terms (e.g., a 20% move from $50 is only $10, whereas the same 20% swing from $250 is $50 or 5 times greater). Underlying data for Graphs 2, 3, and 4 is sourced from Appendix Tables A, B, and C for SPY, IWV, and QQQ respectively.
Note: Performance numbers are rounded to two decimal places. All returns are gross of (do not include) transaction costs, taxes, and fees; however, return calculations do assume dividend reinvestment and include the inherent expense ratios of the respective ETFs. Underlying data is sourced from Appendix Tables D, B, and E for SPY, IWV, and QQQ respectively.
Note: Dollar numbers are rounded to the nearest whole dollar. All returns are gross of (do not include) transaction costs, taxes, and fees; however, return calculations do assume dividend reinvestment and include the inherent expense ratios of the respective ETFs. Underlying data is sourced from Appendix Tables D, B, and E for SPY, IWV, and QQQ respectively.
Note: Underlying data is sourced from Appendix Tables D, B, and E for SPY, IWV, and QQQ respectively.
Note: This table provides data for Tables 1 and 2 in the main text
Note: This table provides data for Tables 1, 2, 3, and 4 in the main text since IWV only has 20 full calendar years of data
Note: This table provides data for Tables 1 and 2 in the main text
Note: This table provides data for Tables 3 and 4 in the main text
Note: This table provides data for Tables 3 and 4 in the main text

Endnotes

[i] In other words: From 1994 to 2020, the annualized total return difference between the absolute best-timed investor and the absolute worst-timed investor in an S&P 500 fund was only 1.5%

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Michael Ashley Schulman

Michael Ashley Schulman

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Avid traveler and art fan, also Partner & Chief Investment Officer @Running Point Capital, a multifamily office and ultra high-net-worth money-management firm