The problem with "buy low, sell high"

"This time is different" is not the most dangerous phrase in finance. That honor goes to "buy low, sell high." This phrase—oft repeated, but seldom analyzed—is catchy, and sounds like common sense, but is actually terrible advice in most situations.

First, most of us are long-term investors, and we spend at least half of our investment lives saving our earnings and putting it into portfolios. Then, when we are in retirement, we must pull gradually from our retirement nest eggs in order to fund our lifestyle. There are certainly moments in the meantime when we need to make shorter-term investment decisions, but the image that "buy low, sell high" conjures is one of a trading mentality, as if we are all making an "all-in" or "all-out" decision with our entire portfolios.

The phrase also seems to imply a symmetry of returns—up 50% of the time, down 50% of the time—that simply doesn't match up with reality. That's because bull markets are common and persistent, and bear markets are the rare-but-acute exception. As we investigate in The next bear market, the last 70-plus years of market returns have seen only seven bear markets. In each and every case, US stocks were back to hitting all-time highs (on a total return basis) within 74 months. More importantly, diversified portfolios are designed to recover even more quickly. Based on our analysis, the longest "time under water" for a 60/40 stock bond portfolio was 50 months.

In addition, the "buy low, sell high" concept is predicated on faulty statistics. For example, we sometimes hear claims such as: "If you miss the 40 worst days of the stock market, your return would have been 950% higher than a bu=and-hold investor!" There are two main problems with this type of claim:

? First, it's impossible to know when those "worst days" will occur, and there's an extremely high cost of missing out on gains while you look for a re-entry point. As we wrote a few weeks ago, market-timing strategies' returns are so poor that we actually have to change to a logarithmic scale in order to see them when compared to the gains of a buy-and-hold approach.

? Second, and more importantly, the stock market's best and worst days are clumped together. You can't miss one without the other, and that has a damaging effect over time. As we recently concluded, "missing the good and the bad is just plain ugly".

Time in the market is more important than timing the market, and trying to "buy low, sell high" is a fool's errand with a hefty cost. Even so, there are still steps that we can take to manage portfolios around cyclical risks.

First, we need to recalibrate our expectations by studying the nature, frequency, and duration of bear markets. Second, we can make sure that market fluctuations don't endanger our ability to "keep the lights on"—for example by using a Liquidity strategy to secure the next few years' worth of cash flow needs. Third, we can ensure that we are using a diversified portfolio approach that helps us minimize the impact and duration of bear markets. Last, but not least, we need a 'bear market plan' to help us to maintain discipline—and even capitalize on opportunities—that come with these stressful periods.

These steps won't help us meet the unattainable goal set by "buy low, sell high". But for most investors, taking these steps can help us enact a far more realistic plan: "buy low (and often), sell higher (and rarely)".

By Justin Waring, Investment Strategist Americas

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