Timing the market comes down to a simple choice between value and momentum investing – both have their promoters and detractors and at the end of the day it may boil down to a simple matter of personality
I hate to be a purveyor of psychobabble, but self-knowledge really is required to play markets successfully.
When you cut through all the obfuscation there are just two approaches to the investment challenge: “value” and “momentum”. Neither is particularly intellectually demanding – and don’t let the “smooth-tongued wizards” (Kipling’s disdainful description of investment professionals) persuade you otherwise. Both work, but each requires different emotional wiring.
Good momentum players are often lousy value investors and vice versa. You need to know which you are.
To help, Ben Graham – the father of security analysis – coined this useful proposition about markets: “In the short term, the market is a voting machine. In the long run, it is a weighing machine.”
Short term, security prices reflect the opinion of the majority (voting). These participants can be skittish and emotional, making for volatility. The majority is also sometimes just plain wrong. In the long run, though, markets are ruthlessly efficient (weighing). Hindsight confirms that, given time, silly bubbles pop and great companies create enduring wealth for their owners. Value eventually outs.
How you respond to Graham’s model is up to you.
Some are immediately gripped by the excitement of trying to figure out for a given stock “how will the votes be cast?” Will it be higher or lower in six weeks, even six days? For these folk, it is obvious – if a stock is going up, own it. If down, sell. This is “momentum” investing. It is hard-nosed, pragmatic and, crucially, impatient. Time horizons are determined by whether a stock is working – if not, cut. There is always another.
Others take a road less travelled. They distrust popular opinion and avoid fads. For them the sound and fury of day-to-day trading – every man looking to second guess the other – is irrelevant and distracting. They have faith – in the superiority of their own analysis and perception of what constitutes “value”. And they are prepared to back that analysis with time. They wait until their judgement is vindicated – until Judgement Day, if need be. Michael Lewis, author of Liar’s Poker, Moneyball and The Blind Side, wrote of value investors: “… they put disproportionately high value on having the last laugh, missing out on a lot of fun in the meantime.”
To discover what type of investor you are, find your true opinion about “averaging down” – adding to a position after a fall in its price. Momentum investors hate it – throwing good money after bad – and prefer cutting losses. Value investors welcome such falls as a chance to buy more of a good thing. Both are reasonable and either approach could work for you. But whichever you choose, you must stick to.
We, by the way, are value investors.
In support of our preference, I will make just one claim for the “value” school. Its costs of delivery are meaningfully lower than for “momentum” strategies, because time horizons are longer and thus the propensity to deal less. And fewer transactions mean lower costs.
David Swensen, genius-presider over Yale’s foundation, estimates that the typical, trigger-happy US Mutual Fund incurs costs of ca 1.0% of its assets annually, just from trading, before any additional fees or charges. Such costs soon escalate, making a difficult job – beating the averages – even tougher.
Nick Train, investment manager of the Finsbury Growth & Income Trust
