Market Timing Simulator

This Market Timing Simulator allows you to compare the performance of two investing strategies:

• #1: investing in the stock market in a regular monthly cadence — regardless of the current market price
• #2: ‘timing’ the market by keeping your savings in cash and delaying your entries into the stock market until the price is ‘low’ (for example: 5%, 10%, or 20% below the all-time high price)

This tool covers a time period stretching from January 1980 to present, allowing you to test drive your market timing strategy against historic events such as 1987’s “Black Monday”, the dot-com bubble of the early 2000’s, the Great Financial Crisis of 2008, and the COVID-19 pandemic.

The “stock market” refers to the S&P 500 index in this case (Vanguard’s VFINX fund to be precise), a basket of the 500 largest U.S. stocks.

Now you’re up — does the route to riches rely on time in the market, or timing the market?
 

Illustrative Examples

Troy and Abed in the Market

To illustrate how the tool works, let’s take the example of Troy and Abed. They’re study group partners at a local college who’ve decided to invest their savings in the stock market.

Troy and Abed each have $6,000 to start with, and will save an additional $200 per month going forward.

However, they’ve chosen different investing strategies:

• Troy has a simple strategy — whenever he has cash on hand, he invests it
• Abed uses a more sophisticated strategy. He keeps his money in a savings account earning 2% per year, while monitoring the price of the stock market each day. He only invests in the market when the current price is at least 20% lower than the all-time high price

They start investing on January 1st, 2010.

Using the actual performance data of the S&P 500 index from 2010 to the end of 2019 (a period of 10 years), how did they fare? [Visualized here]

• Troy ends up with a final portfolio value of $69,490 (an average annual return of 13.5%)
• Abed end up with $63,414 (an average annual return of 12.1%)
• In this case, Troy ends up with $6,076 more than Abed. Not to mention that Troy also saved the stress of tracking the daily fluctuations of the market and used the time to hone his paintball tactics…

Abed’s strategy allows him to capitalize on stock market corrections / crashes. For example, during the mini market crash of December 2018 — which saw the S&P 500 decline by 20.1% from its peak price — Abed had nearly $21,000 of cash which he used to buy stocks ‘on the cheap’.

On the other hand, Abed’s strategy results in him keeping cash on the sidelines when the market is doing well. As the S&P 500 index rose steadily from 2012 to 2018 — routinely setting new all-time high prices — Abed funneled his monthly contributions into a savings account instead of putting it to work in the markets.

In comparison, Troy invested his $200 monthly contributions into the market like clockwork. He never made any big trades during market crashes, and never held off from investing when the market might have looked “too high”.

All in all, Abed’s market timing strategy underperformed Troy’s regular investing strategy.
 

When Timing Does the Trick

That’s not to say that market timing can’t yield big profits.

Let’s assume that Abed started investing in 1997 with $6,000 initially, +$200 added per month, and a strategy of investing only when the market was down by 45%+ from the all-time high price. [Visualized here]

At the end of 2011 (a 15-year period), Abed would have a grand total of $73,587 in his portfolio. Meanwhile, Troy’s regular investing strategy would have only yielded $59,050. In this case, Abed would have outperformed by $14,537.

Abed’s strategy was so successful because he correctly predicted that there would be severe market declines on the horizon. His strategy allowed him to capitalize on the bursting of the dot-com bubble (a decline of 49.1% from the peak) and the great financial crisis of 2008 (a decline of 56.6% from the peak).
 

When Timing Falls Face Flat

However, we can also cherry-pick an example on the other end of the spectrum.

Let’s assume that Abed used the same strategy (only investing when the market is down by 45%), but starts in the year of 1980 (instead of 1997 as shown above). [Visualized here]

At the end of 1994 (a 15-year period), Abed would have a grand total of $49,960 in his portfolio. Meanwhile, Troy’s regular investing strategy would have only yielded $124,211. In this case, Abed would have underperformed by $74,251(!).

In this case, the market never declined by more than 45% in this 15-year period. The highest decline was 33.5% from the peak during 1987’s “Black Monday”. As a result, Abed never invests in the market at all! His savings stay entirely in cash, earning 2% per year.

Meanwhile, Troy’s money grew at an average of 11.7% per year.

¿Donde esta les market timing profits?

Notes

• Market prices for the S&P 500 index are based on the “Vanguard 500 Index Fund Investor Shares (VFINX)” fund
• The closing price of the VFINX index fund is updated automatically on a daily basis. As such, this tool will always be up to date for yesterday’s closing price
• It is assumed that dividends are automatically re-invested. For the “regular” investing scenario, the dividends are re-invested on the day that they are received. For the “market timing” scenario, the dividends are re-invested on the next day when the % gap to all-time high threshold is breached
• All dollar values in this tool are shown on a nominal basis. i.e., there is no adjustment for inflation being considered
• It is assumed that all transactions are executed at the VFINX index’s closing price on the day of the trade
• The “average annual returns” represent the annualized money-weighted returns (also known as the Internal Rate of Return / IRR)
• This tool assumes that once money has invested in the market, it is never withdrawn. The market timing mechanics only apply to new savings contributions. In other words, this analysis considers delaying ‘buy’ transactions, but never executes ‘sell’ transactions

For the spreadsheet junkies: you can download a bare bones excel version of this tool here. This spreadsheet contains market pricing data up until May 6th, 2020.

 
 
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Header image credit: Maddy Lykken