How do you prepare for the next market sell-off?

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Over the last week I have read or listened to “gurus” tell everyone that we are heading for another market crash. The past five week rally is over. Done. Sell everything and the shut door when you’re done.

At Iron Gate Global we have a different approach. We certainly love to utilize options strategies to take advantage of volatility, but we don’t believe you can time the market that well. Let me explain.

Investors, especially those who are trying to manage their own money, are searching for the holy grail of investing. They’ll spend thousands of dollars and hundreds of hours looking for something that will lead them to the “Promised Land”. That something that should tell them exactly when to buy and when to sell. This is a search that, early in our careers, we looked for as well. But here’s the thing…this investing Holy Grail that helps you time the market perfectly does not exist.

Here’s why.

Investors who search for this investing magic and attempt to time the market face two very important and very DIFFICULT tasks:

  1. Timing the market top to sell.
  2. Timing the market bottom to buy.

Even if someone is good enough to get the first one right (selling at the top), chances are very, very low that they’ll get the second one right (timing the bottom). To help us understand why this is a loser’s game, let’s look at the numbers.

Below is a table that shows the impact of missing market rallies. In other words, it shows the impact of not being able to pick the market bottom. Even if someone is great at timing the bottom, missing out on only a few days can have a dramatic impact on results.

timing the market

As shown in the graphic, if an investor misses ONLY the top 10 days (that’s not very many!), returns suffer -3.73%. And missing more than 10 days has an even bigger impact.

The biggest problem investor’s face, the biggest reason why this mistake destroys wealth, is because of what lies between their ears—the psychology of investing.

Here’s the thing. Your brain is designed with a survival instinct. You’ll do whatever you can to survive. Hunger, thirst, fatigue, cold, hot…whatever the situation, your brain and your body will fight for life. That’s how we’re designed. While this is fantastic for your physical life, it’s horrible for financial survival.

Below is a common cycle of investor behavior. It includes the feelings that investors go through in the short term. From feeling like a genius one minute to thinking the market is not for you, this cycle can wreak havoc for those with the wrong mindset—the physical survival mindset.

Take 2014 for example. That year the market (S&P 500®) returned a pretty solid +13.7%. The interesting thing was that most of that positive return came in just 10 days. If you missed the best 10 days that year, you would’ve ended up with a -3.1% return. The hard part, however, was that most of the “best days” came after a little market volatility. Here’s a snapshot of some (not all) of the volatile moves in 2014.

Selling at those moments when the market is down 5% or 10% (when you’re the most afraid or depressed), you’ll miss the days when the market is up 8% and 14%. This concept of buying high and selling low is a recipe for disaster.

So what should an investor do?

Download our report, “Overcoming the Six Mistakes that Destroy Wealth” report and find out.

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Categories: Markets and Strategy.