Investors tend to hold cash for too long

Hi All

I have some interesting graphs that can be viewed at my blog:
Investors tend to hold cash for too long - Blog - CMP Financial Planning Pty Ltd

The 50% fall in the Australian share market since its 2007 peak has prompted many investors to flee to cash. As at 31 December 2008, more than 12% of all managed fund assets were held in cash funds according to Plan for Life.

In the US, 37% of all mutual fund assets invested as at 31 December 2008 were invested in money market funds - the highest level on record according to Strategic Insight, FMRCo Market Economics and Research (MARE).

Moving to cash once we are in a bear market reduces investors' exposure to shares when they are at historically low prices. For example, the graph shows how in October 2002, when a new bull market had begun in the US, investors had an above average level of cash until February 2004 - meaning they over-allocated to cash during a 15 month period when shares rose more than 30%.

As a result, investors who had long-term capital tied up in cash likely missed out on the big gains experienced in the early stages of the share market rebound. Historically, many investors have increased cash positions during bear markets but have been slow to reallocate to shares in the early stages of a new bull market.

In summary, ineffective market timing can be costly. The sell-low and buy-high behaviour is a poor strategy that results in returns that are below the market return.

Andrew

As you know many people lost a lot of money this time around and most of them will wait till the share market has turned before they move what's left of their money back into shares.

They've got burned once and won't touch fire for a while

I'm certainly not risking my life's savings in this crazy market
however, I do buy small amounts of shares monthly as I get paid.

Hi Bill

It's true that many investors have been badly burnt. However, for investors sitting in cash now, they are likely to be burnt again when the markets do recover.

In relation to your comment above, my question is when do you decide the market has turned - media views, market rallies, your gut feeling or other?

Cheers

I agree with Andrew,

Alot of people are saying they are waiting to see the market recover though don't actually give a measurable amount, eg, the market has already bounced 20% though people don't actually realise or have a measurable amount they are expecting it to recover by before jumping in. Are they expecting it to recover to where it was in October 2007? Then as Andrew said, they will potentially miss out on 100% growth. Just like they have missed out on 20% growth!

Cheers,

Dan

Dan

I know what you mean, however, the recent 20% gains could easily be wiped out.

Andrew

I guess market rallies will signal the turnaround.
I know you are going to say that if we delay our decision we'll miss another 20% of gains and you are probably right.

It's a crazy market though and we can't trust it.
However, for me the market has seen it's lows and it's fairly safe to move my money over.

IMO from now on it will be moving sideways or up and down but generally up.

Why do people talk about the stockmarket as if it was 1 company or an actual person?

This mode of thinking only leads to 2 possibilites. Average returns or massive losses.

I agree bigbuddha, most people will have average returns.

This is because investors use their emotions rather than using their intellect.

Cheers

But the market is like 1 company these days because shares generally follow each other on the ups and the downs and the magical diversification hasn't stopped us from losing money.

Small losses and average gains are better for me.
If I was younger, sure I'd take more risks but not now.
I'd rather wait for someone else to be the Guinea pig

"...and the magical diversification hasn't stopped us from losing money".

Diversification means investing in different asset classes, not only in shares.
In case of shares....those in the finance industry think that if your shares have different names then your portfolio is diversified.
This is at best simplistic and is a reflection of the general quality of advice that investors receive from the finance industry.
Diversification is about systems and times frames. You may have an equities system that uses weekly data and is designed for infrequent investing to build relatively big positions during a bull run.
Counter setup to this is to have an index system that works off daily data and is responsive to swings/short term move in the market. On top of this you could also run an options/warrants system.
Each component/instrument interlocks with the other and provides diversification.