Market timing
From Wikipedia, the free encyclopedia
Market timing is the strategy of making buy or sell decisions of financial assets (often stocks) by attempting to predict future market price movements. The prediction may be based on an outlook of market or economic conditions resulting from technical or fundamental analysis. This is an investment strategy based on the outlook for an aggregate market, rather than for a particular financial asset.
Whether market timing is ever a viable investment strategy is controversial. Some may consider market timing to be a form of gambling based on pure chance because they do not believe in the possibility of predicting future financial prices. The efficient market theory suggests that financial prices often exhibit random walk behavior and thus can not be predicted with consistency. Some consider market timing to be sensible in certain situations, such as an apparent bubble. However, because the economy is a complex system that contains many factors, even at times of significant market optimism or pessimism, it often remains difficult, if not impossible, to pre-determine the local maximum or minimum of future prices with any precision; a so-called bubble can last for many years before prices collapse. Likewise, a crash can persist for extended periods; stocks that appear to be "cheap" at a glance can often become much cheaper afterwards before either rebounding at some time in the future or heading toward bankruptcy.
Several independent organizations (e.g., Timer Digest and Hulbert financial digest) have tracked some market timers' performance for in some cases over thirty years. In many of these cases, they have found that purported market timers do no better than chance or even worse. However, some have proven to be reliable for the entire thirty year period with performances that substantially exceed the performance of the general stock market or the sectors that the market timer invests in. Jim Simons Rennaisance Technologies Medallion Hedge Fund has consistently outperformed the market. The fund allegedly uses mathematical models developed by Ellwyn Berlekamp [1]. This evidence clearly demontrates that some individuals do appear to be able to time the market, which refutes the efficient market theory explanation. Efficient market theory has also been criticized as an unscientific theory. That is, it assumes the Null hypothesis is true (nothing can predict the market), which is the reverse of standard Popperian methodology.
A recent study suggested that the best predictor for a fund to consistently outperform the market was low expenses and low turnover, not pursuing a value or contrarian strategy.[2] However, other studies have concluded that some simple strategies will outperform the overall market.[3] One market timing strategy is referred to as Time Zone Arbitrage.
Market timing is not illegal, but a scandal erupted in the United States in 2003 where some mutual funds "secretly allowed select investors to rapidly trade the portfolio despite statements banning the practice in the prospectus. A double standard that favors one investor at the expense of another is illegal and undermines the credibility of the industry"[4] In this instance, the market timing frequently involved predictions of the performance of how international markets would respond to the day's trading in the US. This scandal also involved late trading.
[edit] References
- ^ http://math.berkeley.edu/~berlek/fin.html
- ^ Malkiel B.G. (2004) Can predictable patterns in market returns be exploited using real money? Journal of Portfolio Management, 31 (Special Issue), p.131-141.
- ^ Shen, P. Market timing strategies that worked - ased on the E/P ratio of the S&P 500 and interest rates. Journal of Portfolio Management, 29, p.57-68.
- ^ Hougel, T., & Wellman, J. (2005) Fallout from the Mutual Fund Trading Scandal. Journal of Business Ethics 62, p.132 & p.129-139.
