The limitations of stock market predictions
A major advantage of long-term over short-term investing also lies in the reduction of the psychological pressures that come with trying to make sense of why stocks move in a certain direction. Picture yourself sitting in front of your computer or television screen trying to anticipate and react to every news feed that pops up on your screen. It is like reading a crystal ball. The overload of information fuels a feeling of distress if predicting the market is the core business model of your investment career.
Many of the “explanations” swirling around, trying to capture and analyze the underlying market sentiment that steer the market either up or down are empty attempts of making sense of the world around us. They are the primary source for why trying to make a quick buck often leads to failure.
If you look at some of the news feeds over the many years, it is often the exact same reasons to explain market moves that are cited on consecutive days. What caused a slump in prices one day may be stated as a reason for the hike the following day.
There is no wrong in trying to understand why the market moves, but that is all it usually is: a way of trying to make sense of what is happening. It is human nature to try and understand these phenomena, but it is usually nothing but a snapshot in a longer running cycle. Trying to play these momentary moves can backfire rather badly.
Predicting the stock markets
A good example of trying to read the market and attempts to explain particular market moves were the three days in 2014 between October 7th and 9th.
After a non spectacular start into the week, Tuesday 7th ended in a massive downward turn: minus 1.60%. The following day, Wednesday 8th, was marked by a significant upward move from the day before, ending 1.64% in positive territory. Only one day later, Thursday 9th, the market fell again by a substantial 1.97%.
Amongst reasons for the large drop on Tuesday were worries about the global economy; particularly the Eurozone area. On Wednesday, however, the Federal Reserve announced to not deviate from their earlier statements regarding interest rates and quantitative easing. Only two days after the first major drop amid global worries, the same reasons, the Eurozone and worries about the economy, pushed the market down again.
Was there anything that really changed overnight? No. Little to none. The global economy does not change overnight and it was merely a few words by Federal Reserve officials that had such a dramatic impact on markets. It was a perfect time to gamble, but not to investi.
Personal tranquility and super returns from long-term investing
Those who prefer to invest for a longer period reap double the rewards in comparisons to those chasing the quick buck. Not only is it much more relaxing to invest with a longer horizon, but it also enables you to profit from hikes in share price as well as dividend payments.
If your investment strategy is based on the next few hours or days, you are generally already losing out on dividend payments. This is different for those who buy just before the ex-dividend date, but this is a topic for another article. On top of that, it is a lot more stressful to constantly having to watch market moves. Wouldn’t you prefer to sit in the garden, listen to the birds chirping, and read a nice book in lieu of sitting in front of a screen worrying about the direction of the share price in the next few seconds and minutes?
The thing is that long-term investments require a greater amount of research into the fundamentals of a company – e.g., their profit, development, and strategy over a number of years. Short-term, or more specifically, speculative approaches, require no such work. They are indeed a much easier approach to trying to play the market; similar to putting money on either red or black in a casino – it requires no research, only luck.
But the fact is that the stock market offers real investment opportunities if you are willing to stick with it for more than a few days. Long-term – when the stacks transform from gambling into actual investing opportunities based on company and economic fundamentals – give investors the chance to reap the real benefits of the beauty of the markets: participation in a company’s performance and their gratitude in the form of regular dividend payments.
Better still: your money is not used for gambling but well-researched investments; putting you in a much safer spot and guarding you from those psychological pressures leading to detrimental decisions.
Let’s look at that October 2014 period again. Only 8 days later, the markets turned and, except for a few daily setbacks, only knew one direction: upwards. Commencing October 17th and an increase of 1.63%, the Dow Jones, and many of its peers, steadily moved to higher gains.
Combining short- and long-term investment strategies
Whatever one believes in and has concluded from research, long-term investing should be based on these beliefs and not short-term speculation and momentary mass behavior. Even though a bit of speculation is fun, it should not be the primary strategy to increase ones fortune; particularly as it oftentimes results in the opposite: a loss of capital.
Having said this, it is indeed possible to anticipate short-term movements. A recent example is the aforementioned oil companies. Total SA, for instance, fell in line with the oil price and its peers. In two days in mid-December, its price dropped a total of 7.6%. Better to stay away from oil companies?
Far from it: The following three days marked an 8.5% gain. And even despite a fall or stagnation in oil price, the world is not yet at a point where it can, on a global scale, run its cars, produce its plastic, or heat its homes with alternatives. The dependency on oil will continue and thus the oil price will rise again and in consequence the share prices for oil manufacturing companies.
The massive drop offered both short- and long-term opportunities. The speculative aspect was negligible: even if prices had not risen over the following days, the long-term outlook and demands for oil and related products across the globe remains strong and will continue to feed the profits of those companies.
If you do indeed feel the need to speculate a bit, have a contingency plan. Do your research and know which companies can weather the storm. This will offer the possibility to make a quick buck by buying and selling within hours or days if things go your way. However, if other market participants take a different stance and the share price development is different from what you had expected, your knowledge of the market and the company will offer you an alternative route: stick with a solid investment and profit from share price developments weeks or months later.
And never forget: Long-term investments yield extra returns in the form of dividends and special dividends that one is not able to enjoy when merely gambling on temporary market movements.