What role does market timing play in building your portfolio?

Predicting exact bottoms and tops is hard. But back in 2020 when the FTSE fell off a cliff and the market woke up to Covid the fear spread rapidly. I've always been a big fan of stop losses and limiting risk, and my stops took me out of the market and I started aggressively shorting stocks. As the market fell my P&L reached new highs at a time when investor portfolios were being shattered. The key to market timing is firstly to monitor the narrative. What's driving the market? What is the underlying story market participants are telling themselves? And secondly it's to use technical analysis to identify short-term and long-term trends. You'll never catch the bottom or the top but it is 100% possible to ride the waves of the market.

Timing the markets at the very top or bottom is nearly impossible. To look at it differently - expert F1 drivers cannot do all the laps all the time with the same preciseness. So timing markets with so many variables is nearly impossible. Being generally right about the direction is what is required.

The problem with predicting exact tops and bottoms is that you're not waiting for the trend to change. And as the losses rack up, it's human nature to be risk averse and to avoid cutting a loss. This can mean emotions come into play and influence our decision making to a sub-optimal level. The problem is the herd mentality protected us from predators. Better to run and be wrong than wait and be eaten! But doing what the crowd is doing always leads to average results. If you want to outperform, you need to look for reasons why the crowd is wrong and then wait for initial price confirmation. I know plenty of people who shorted Tesla and lost heavily because they shorted directly into an uptrend and gambled that the trend would turn.

Broad trends change infrequently. Our market timing decision should also be equally infrequent. We do not expect to capture every micro movement of the market. Rather we want to be in general direction of market. Also keep in mind, every decision has a cost involved. Transaction cost, opportunity cost and taxation in most jurisdictions. So less is better in most cases.

DCA strategies work because emotions are overridden and the process is automated. When we allow discretion into trading and deviating from a strategy this allows room for error. We are at our most objective before we open a position. Once that position is opened we're one big bowl of Bias Bolognese. Not only do we have a monetary incentive to be right, but we also have an emotional incentive because our ego doesn't want to be wrong. This is why we succumb to confirmation bias because we seek out information that proves our thesis rather than looking for contradictory evidence. And even if we do find it, we'll look for ways to explain away and dismiss the contrary information rather than embracing it. Automation removes emotions.

While dollar-cost averaging (DCA) offers a disciplined approach, as a contrarian investor, I prefer seizing opportunities when assets are undervalued rather than adhering to a fixed investment schedule. DCA may smooth volatility, but it could also limit potential gains during market downturns. Contrarians thrive on identifying mispriced assets, making strategic investments based on market conditions rather than following a predetermined schedule.

Alternative strategy could be dollar cost averaging (DCA). Simply put, invest a fixed amount of money regardless of market condition. Another alternative could be - on extremes market movements, one could simply switch assets. Instead of investing in the (overpriced) asset, invest the same amount in a different underpriced asset. (For example, switch between equity and debt).

Most private investors and in fact most professional investors fail to beat their respective benchmarks. The evidence for passive investing is clear. In 2008 Warren Buffett challenged the hedge fund industry with a $1 million bet that the S&P 500 would outperform a handpicked portfolio of hedge funds. Protégé Partners LLC conceded defeat two years before the end of the 10-year period. As a professional trader I believe the market can be beaten through exploiting short-term inefficiencies but this takes a lot of time and a lot of effort. For most people who don't want the stress and time invested for a high failure rate, long-term investment in a passive tracker fund such as the S&P 500 is the best option.

While the adage "time in the market beats timing the market" has merit, as a contrarian investor, I believe it's essential to balance long-term holdings with opportunistic moves. While patience is indeed valuable, seizing contrarian opportunities can lead to outsized returns. Historical data may favor long-term strategies, but contrarians thrive on identifying mispriced assets and capitalizing on market inefficiencies, often outperforming traditional approaches.

Investing is akin to knowing how to sprint and knowing how to run a marathon. Investor should have multiple skills and should know when to use what. Most of times, Time in the market makes money. But once in a while, Timing can save you from big drawdowns. Avoiding a drawdown is like half battle won. So, both skills are important - Time and Timing.

Diversifying is important but one mistake private investors make is they end up being too diverse. For example, they may own several funds yet the same funds are all dominated by the S&P 500, meaning all three funds will have a strong correlation to each other than the S&P 500. Another mistake is they'll own 100+ stocks when in reality to be diversified properly you can do so with 20 or less stocks. By picking stocks in varying sectors and buying small cap stocks, you can get exposure to the market without ending up mimicking a tracker. And if you want to buy a tracker, then you're already diversified. The S&P 500 has 500 stocks in the tracker. Or if you want to be more diversified you can pick a global tracker.

Diversification protects your investments from unexpected shocks. Many a times unrelated events also affect your investments. Example, your company will be affected if there is a unrest or war in that country though that specific company has nothing to do with it. An entrepreneur is fully invested in the company. Through thick and thin. An investor has a choice to select only the best and stay invested with it as long as they wish to. So use this choice well. At the same time, diversifying too thin loses the benefits. Say we have very little % in a position. And that has gone 10x. It would not move your needle much because the position was very tiny to begin with. So, over-diversification can also become di-worse-ification. Avoid that.

While diversification is touted as a risk mitigation strategy, as a contrarian investor, I prioritize identifying undervalued assets rather than spreading investments across various sectors. Concentrating on select opportunities with strong potential can yield higher returns than broad diversification. Diversification, while important, shouldn't overshadow the importance of thorough research and strategic investment decisions.

As a contrarian investor, I disagree with the focus on monitoring trends and economic indicators for investment decisions. While staying informed is beneficial, relying too much on trends can lead to reactionary behavior and pitfalls. Markets are unpredictable, and trends can be misleading. Instead, I prioritize fundamental value, diversification, and a long-term perspective. I believe in making strategic decisions based on intrinsic value rather than short-term market movements. Regular portfolio reviews are crucial, driven by changes in personal financial goals and risk tolerance, not market volatility.

When it comes to investing, market timing is a dangerous delusion. As a contrarian investor, I believe "we do not know anything about the future and there is no reason to believe that the investment will continue to grow." The unpredictability of markets makes timing futile and risky, often resulting in missed opportunities and higher costs. Instead, I focus on what I can control: value investing, diversification, and a long-term perspective. I also use options strategies like cash-secured puts, covered calls, and the wheel strategy to enhance returns while managing risk. Embracing uncertainty, I build resilient portfolios by rejecting market timing and maintaining a contrarian mindset.