Market timing attempts to predict the direction of future market movements in order to buy low and sell high. It is a strategy that most professional investors rely on and most other investors hope to replicate. Interestingly, it's also a strategy that has negative connotations for many investors. Have you ever wondered whether you could make money as a day trader? Read on as we cover the controversy behind this strategy.

The Controversy
At the academic level, the very concept of market timing is called into question by those who believe in the efficient market theory. This theory is based on the premise that, at any given time, prices fully reflect all available information on a particular stock and/or market. Thus, no investor has an advantage in predicting a return on a stock price because no one has access to information not already available to everyone else. (Check out What Is Market Efficiency? to read arguments for and against this theory.)

Outside of academia, the controversy surrounding market timing is primarily focused on day trading conducted by individual investors and the mutual fund trading scandals perpetrated by institutional investors in 2003. Media coverage of these issues has been so prevalent that many investors now dismiss market timing as a credible investment strategy. Because the popular media has a significantly greater audience among investors than most academics do, the image the popular media has created for market timing provides a good spot to begin an exploration of the topic. (To learn more, read Day Trading: An Introduction.)

Day trading sits at the extreme end of the investing spectrum from conventional buy-and-hold wisdom. It is the ultimate market-timing strategy. While all the attention that day trading attracts seems to suggest that the theory is sound, critics argue that, if that were so, at least one famous money manager would have mastered the system and claimed the title of "the Warren Buffet of day trading". (To read about more great investors and their strategies, see The Greatest Investors tutorial.)

The long list of successful investors that have become legends in their own time does not include a single individual that built his or her reputation by day trading. Even Michael Steinhardt, who made his fortune trading in time horizons ranging from 30 minutes to 30 days, claimed to take a long-term perspective on his investment decisions. From an economic perspective, many professional money managers and financial advisors shy away from day trading, arguing that the reward simply does not justify the risk. (To learn more, read Market Timing Fails As A Money Maker.)

Legality, Ethics and Mutual Fund Scandals
Despite the controversy, market timing is neither illegal nor unethical. Attempting to make a profit is the reason investors invest, and timing your purchases and sales so that you buy low and sell high is the general goal of most investors (although short-selling and arbitrage take a different approach, the success or failure of these strategies still depends on timing).

The problems with mutual fund trading that cast market timing in a negative light occurred because the prospectuses written by the mutual fund companies strictly forbid short-term trading. Despite this prohibition, special clients were allowed to do it anyway. So, the problem was not with the trading strategy but rather with the unethical and unfair implementation of that strategy, which permitted some investors to engage in it while excluding others. (To learn more, read A Brief History Of The Mutual Fund.)

The Professional Approach
All of the world's greatest investors rely, to some extent, on market timing for their success. Whether they base their buy/sell decisions on fundamental analysis of the markets, technical analysis of individual companies, personal intuition, or all of the above, the ultimate reason for their success involves making the right trades at the right time. In most cases, those decisions involve extended periods of time and are based on buy-and-hold investment strategies.

Value investing is a clear example, as the strategy is based on buying stocks that trade for less than their intrinsic values and selling them when their value is recognized in the marketplace. Most value investors are known for their patience, as undervalued stocks often remain undervalued for significant periods of time.

To Time or Not to Time?
If your goal is to buy low and sell high, you are market timing. As noted above, it is very difficult to be successful at short-term market timing over an extended period of time. The average investor doesn't have the time (or desire) to watch the market on a daily basis and will be far better served by a focus on long-term investing instead of trying to guess the direction of the market on a daily basis. When the costs and risks are factored into the equation, even most professional investors prefer to stretch their investment horizons over a longer time frame. It is far easier to be successful if you purchase an investment and hold it until the price rises, regardless of how long it takes, than to purchase an investment at 9am and hope to make a profit just a few hours later.

Related Articles
  1. Investing Basics

    5 Ways to Double Your Investment

    So if you want to go double, consider these five classic strategies to help turn your vision into a reality.
  2. Technical Indicators

    Explaining Autocorrelation

    Autocorrelation is the measure of an internal correlation with a given time series.
  3. Chart Advisor

    ChartAdvisor for October 9 2015

    Weekly technical summary of the major U.S. indexes.
  4. Chart Advisor

    These Oil & Gas Stocks Have Reversed

    It's been a long downtrend for oil stock owners, but there's hope. These four oil and gas stocks have reversed and may keep trending to the upside.
  5. Mutual Funds & ETFs

    The 4 Best Buy-and-Hold ETFs

    Explore detailed analyses of the top buy-and-hold exchange traded funds, and learn about their characteristics, statistics and suitability.
  6. Stock Analysis

    The Biggest Risks of Investing in Netflix Stock

    Examine the current state of Netflix Inc., and learn about three of the major fundamental risks that the company is currently facing.
  7. Stock Analysis

    Investing in Lumber Liquidators? Read This First

    Find out what investors should know before buying Lumber Liquidators shares. Learn about Lumber Liquidators' financial performance and operational outlook.
  8. Stock Analysis

    What Seagate Gains by Acquiring Dot Hill Systems

    Examine the Seagate acquisition of Dot Hill Systems, and learn what Seagate is looking to gain by acquiring Dot Hill's software technology.
  9. Chart Advisor

    4 European Stocks to Consider Buying

    European companies, listed on US exchanges, that are providing buying opportunities right now.
  10. Stock Analysis

    The 5 Best Buy-and-Hold Energy Stocks

    Understand why energy companies' stock are volatile when oil prices are volatile. Learn about the top five energy companies to buy and hold.
  1. Can working capital be too high?

    A company's working capital ratio can be too high in the sense that an excessively high ratio is generally considered an ... Read Full Answer >>
  2. What are some of the most common technical indicators that back up Doji patterns?

    The doji candlestick is important enough that Steve Nison devotes an entire chapter to it in his definitive work on candlestick ... Read Full Answer >>
  3. How do I use discounted cash flow (DCF) to value stock?

    Discounted cash flow (DCF) analysis can be a very helpful tool for analysts and investors in equity valuation. It provides ... Read Full Answer >>
  4. Tame Panic Selling with the Exhausted Selling Model

    The exhausted selling model is a pricing strategy used to identify and trade based off of the price floor of a security. ... Read Full Answer >>
  5. Point and Figure Charting Using Count Analysis

    Count analysis is a means of interpreting point and figure charts to measure vertical price movements. Technical analysts ... Read Full Answer >>
  6. What assumptions are made when conducting a t-test?

    The common assumptions made when doing a t-test include those regarding the scale of measurement, random sampling, normality ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Purchasing Power

    The value of a currency expressed in terms of the amount of goods or services that one unit of money can buy. Purchasing ...
  2. Real Estate Investment Trust - REIT

    A REIT is a type of security that invests in real estate through property or mortgages and often trades on major exchanges ...
  3. Section 1231 Property

    A tax term relating to depreciable business property that has been held for over a year. Section 1231 property includes buildings, ...
  4. Term Deposit

    A deposit held at a financial institution that has a fixed term, and guarantees return of principal.
  5. Zero-Sum Game

    A situation in which one person’s gain is equivalent to another’s loss, so that the net change in wealth or benefit is zero. ...
  6. Capitalization Rate

    The rate of return on a real estate investment property based on the income that the property is expected to generate.
Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!