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Stocks For The Long Run Or Merely Buy And Hope?

The battle is on between buy and hold and tactical asset management

In the early 1990s, while working at another investment magazine, I asked Princeton University finance professor and efficient market guru Burton Malkiel what was the secret to making money in the stock market. His reply: “Never sell.” How quaint that sounds today, now that nearly a decade's worth of capital appreciation has been wiped out (note that 20-year Treasuries, purchased in 1969 and held to 2009, outperformed the S&P 500 for that period).

Today, Malkiel's strategy is derisively called “buy and hope” by tactical asset allocation devotees, otherwise known as “market timers.” Perhaps it's a measure of how bad it has gotten that established market truths are being challenged. Of course, one might wonder if the rise of the market timing challenge isn't in itself a bit faddish, since capital markets tend to confound (in the short run, at least), causing investors to chuck what wasn't working only to get whipsawed later. And, anyway, let's face it, Malkiel and others (including at least one market timer we profile on page 24) agree that most advisors and investors can't do market timing right — and that's even before transaction costs and taxes. Malkiel points out in his classic book, A Random Walk Down Wall Street, that mutual fund managers have been “incorrect in their allocation of assets into cash in essentially every market cycle” from 1970 to 2002 (my copy of A Random Walk is the eighth edition, published in 2003). Malkiel writes that “caution on the part of mutual fund managers (as represented by a very high cash allocation) coincides almost perfectly with troughs in the market.” In other words, the pros tend to hold too much cash at the bottom. Conversely, in March 2000, fund managers' cash hoard was near an all-time low, just when they should have been bearish. “Clearly the ability of mutual fund managers to time the market has been egregiously poor,” Malkiel concludes. A famous University of Michigan study that Malkiel quotes shows that the “significant market gains over the 30-year period from the mid-1960s through the mid-1990s came on 90 of the roughly 7,500 trading days” — or just over 1 percent of the total. On the other hand, tactical asset allocation types (i.e. market timers) seem to be making compelling arguments these days, challenging not only Malkiel, but other big minds, such as Jeremy Siegel of Wharton, the author of Stocks For The Long Run. For example, fund manager Mebane Faber's new book, The Ivy Portfolio, recommends copying the asset allocations of Ivy league endowments and then applying disciplined moving-average-based market timing. (Of course, Ivy Leaugue endowments weren't immune from the popping of the credit bubble.) For more, please turn to Senior Editor John Churchill's story on the subject, beginning on page 24. It may challenge some of your heretofore most-cherished investing theories.

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