Timing the Stock Market: Does it Really Make No Sense?
47 Pages Posted: 29 Jul 2013 Last revised: 11 Aug 2015
Date Written: March 2014
Many private and institutional investors attempt to time the market and generate abnormal returns by periodically switching their portfolio allocations between the stock market and the cash market based on their return predictions. However, most academic studies emphasize that a successful market timing strategy requires a prediction accuracy that is usually not observable in reality. While existing studies evaluate the outcomes based on traditional return and risk measures, we develop a “simulated market timer” that does not require a specific forecast model and adopt a decision theoretic framework to compare market timing with a buy-and-hold strategy. Our bootstrap-based simulations show that market timing can even add value for some investors with only moderate prediction skills.
Keywords: Market timing, expected utility theory, regret theory, anticipated utility theory, cumulative prospect theory, bootstrap simulation
JEL Classification: G11, G12, G14
Suggested Citation: Suggested Citation