There is a tendency by many investors to follow the herd, but safety in numbers could also means we follow rules that in reality are just old wives’ tales. We look at one which really is past its sell-by date.
Some 10 years ago, Leeds University researchers asked 200 volunteers to walk randomly around a large hall without talking to their fellow participants. A handful of the people though were given different instructions on where to walk. It took just 10 people to act confidently to influence the direction of the remaining 190 there without the many not even realising it.
This herd mentality is a well-known trait among investors too. Momentum investing and its (sometimes unfortunate) results can be observed across the history of stockmarkets from the first bubble to the last crash.
Leeds University’s ‘Sheep in Human Clothing’ study also explains our predilection for wanting to have guidelines and rules to follow. And, for investors, some of these make sense – there is a lot of very good research promoting why investors should invest and forget, leaving their money invested in the market and that it’s time in the market that’s your friend (click here for our article on the subject).
The evidence here consistently reinforces the view that timing the market can potentially see you miss out on some of the stockmarkets’ best performance – some of which takes place just days after the worst days.
Other rules however should be assigned to the grave. Scheduled selling the market is as flawed as trying to time it! And while we’ve written about not selling out at the end of April before, we decided to revisit the old wives’ tale and see what would have happened this year if you decided to “Sell in May, go away and not come back till St. Leger Day”, which was held on Saturday 16 September in Doncaster.
Winding the clock back to January 1987, we have two individuals – Steady Ellie and Holiday Henry – who both invested in a fund that effectively mirrored the FTSE All Share Index. Steady Ellie simply left her money invested throughout the entire 30 years, while Holiday Henry sold his investments on 30 April, reinvesting the proceeds around the middle of September every year. So how would their portfolios have performed?
Both strategies actually produced good returns so Henry’s adherence to a summer of cash savings returned an annualised performance of 8.6%. Ellie, however, saw her investments enjoy an annualised return of 10.3% as the index yielded positive returns 61% of the time (i.e. in 19 of the 31 summers). Taking compounding into account, Ellie benefitted from a 1,379% gain. Henry saw ‘just’ a 965% increase.
Now, of course, investments can go down as well as up, and 2001 and 2002 are good examples. Steady Ellie could have avoided losses of 18.9% and 21.7% respectively. Henry could have headed off for a societal summer in London – from Ascot, Wimbledon, Henley and Lord’s – and benefited from his investment strategy!
But focusing on a couple of years equally debunks the myth. Last year would leave performance lower by 2.7% and the previous year by 8.3% if you sold out for summer. Meanwhile, selling between May and September 2009 would have had you miss a 20.9% increase given the markets were recovering rather sharply from the Financial Crisis. It’s also worth remembering that past performance is no guide to future returns.
So a strategy that fails for almost two thirds of the time has to be viewed as the Dodo in 1662 – the last widely accepted sighting of the fated flightless bird. Hopefully this article will encourage a few more converts to the time in the market recommendation rather than remembering a thoroughly risky rule.
Justin Urquhart Stewart
Co Founder and Head of Corporate Development
Seven Investment Management LLP is authorised and regulated by the Financial Conduct Authority. Member of the London Stock Exchange. Registered office: 55 Bishopsgate, London EC2N 3AS. Registered in England and Wales No. OC378740.
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