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Art of trading lightly when an index is your on-off switch

By December 21, 2016November 20th, 2023Uncategorized

As featured in the Herald Sun – Friday 16th December 2016.
By Gary Stone – Author of Blueprint to Wealth: Financial Freedom in 15 Minutes a Week & the Founder of Share Wealth Systems

In this column, I have previously discussed index tracking funds, called index ETFs (Exchange Traded Funds). Over the long term, index ETFs with dividends reinvested handsomely beat nearly every active balanced managed fund, which charge far higher annual management fees than index ETFs.

Unfortunately, actively managed funds are where at least 75% of retirement money is invested in Australia, the U.S., and elsewhere, meaning that ordinary people will retire with 100s of 1000s of dollars less than they could have.

Investing in the index means that ordinary investors don’t need to get involved with individual stock selection. Which should it be at the moment, BHP or ANZ? Should I take a punt on that speccy a friend told me about? Stock selection is all taken care of for you by the index ETF. You will ALWAYS be in the top 20 stocks, whichever they may be, forever, by investing in the ASX20 index ETF. Or the top 400 mid-cap U.S. stocks by investing in the S&P400 Mid-cap index.

Last week I also bust the myth that the market shouldn’t be timed. I did so by showing that if the best days in any 10-year period were missed using long-term timing, the worst days, which occur close to the best days, would also be missed, leaving the investor much better off.

Here’s an idea. Put your effort into focussing on a single ‘stock’, the index ETF, by applying simple near-passive index timing with the primary aim of missing the worst days in the stock market. Such periods might occur two or three times a year and severe negative periods every few years.

Miss most of these periods and your investments will, over time, do far better than the index. The idea is not to become a trader hanging on every up and down move in the stock market, but to be a cool, calm, collected and observant participant in the long-term fortunes of your nest egg.

Ordinary investors have the size (small) and agility to remove most or all of their stock investments from the stock market during adverse periods. Large funds simply cannot exit all their holdings so they have to take the full brunt of large bear markets. Most individual investors that hold multiple stock positions also battle to sell and then re-open multiple positions.

The index ETF investor only has one ‘stock’ to focus on when to exit and then re-enter.

Index timing is far simpler than individual stock timing. Detractors of timing will point to the vagaries of fast moving stock prices and short-term market volatility as almost impossible to time. I agree, but that is not the sort of timing that I propose. There are other kinds.

Simple timing tools exist that savvy active investors use to conduct long-term timing that puts them way ahead of the indices, let alone the fee-prone active funds. These techniques are found in the world of charting and technical analysis. Simple tools such as the Average True Range (ATR) Trailing Stop indicator, or using a Moving Average on weekly and monthly charts.

On the journey…

Author of Blueprint to Wealth: Financial Freedom in 15 Minutes a Week

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