Will Hepburn
Discussions of selling and moving out of the stock market often focus on potentially missing good days and hurting overall returns. However, investors have an equal chance of missing a bad day and increasing returns. Since the best days often follow the worst days, back to back, what is statistically more likely is that if an investor missed one he will miss the other. This study looks at the outcome of missing both the best and worst days and the conclusion that strategic diversification may both reduce risk and increase returns for investors.
The Kids Fund -Prescott, AZ - With the “Fall of 2008” behind them, investors are starting to look for ways to ensure they never have to experience the pain of another stock market crash. A plethora of articles have appeared on the subject, and some are extolling the wisdom of exiting the market during tough times.
Historically, this active strategy of money management has been panned due to the risk of missing the market's best days and hurting returns, but according to a study by the financial advisor Hepburn Capital Management, LLC [HCM], missing the best days of the market does not matter if investors also miss the worst days. In fact, by missing both the best and worst days, investors' returns actually stabilize ahead of the S & P 500 stock index, says HCM President Will Hepburn.
“What happens to an investor’s returns if he sits out for both the worst days and the best days?” asks Hepburn. “Remarkably, average annual returns actually increase and become more consistent at the same time. Our study shows that missing both the 10 worst and best days results in average returns of 8.15%. Miss both the 20 worst and best days, and annual returns rise to 8.58% and dodging the 40 worst and best days creates returns of 8.62%.” By contrast, the S&P 500 stock index averaged 7.06% annual return for the 25 years ending December 31, 2008.
S&P 500 – 25 Years Ending Dec. 31, 2008 – Average Annual Return 7.06%
Miss the Best Miss the Worst Miss Both Best and Worst
10 days 4.10% 11.23% 8.15%
20 days 2.15% 13.80% 8.58%
40 days (-.93%) 17.59% 8.82%
Source: Hepburn Capital Management 2006 Study Hepburn points out that it is fairly easy to deliberately miss the worst days of the market, because they rarely occur in isolation, but rather follow steadily deteriorating market values. But trying to catch the best days rather than avoiding the worst days is less effective because historically the best days tend to closely follow the worst days, sometimes even occurring back to back.
The other reason that missing the best and worst days both increases one’s returns and
dramatically reduces volatility is that the worst days in the stock market tend to be much
worse than the good days are good. Throw in the math of gains and losses and the case
for risk management becomes even more clear.
A loss of 10% requires an 11% gain to break even. But a 50% loss requires a 100%
gain to return to breakeven, making it much more important to avoid a large loss than to
make an equal gain.
Although past performance is not indicative of future results, the Hepburn Capital study
illustrates the point that investments actively managed for risk reduction may provide
added potential benefits compared to a passive buy-and-hold approach, including more
consistent returns and lower principal fluctuations.
“If investors believe diversification reduces risk, additional diversification – such as
having 1/3 of a portfolio using defensive strategies – should reduce risk even more. Our
study strongly suggests that every investor should have some actively managed
components in their portfolio”, Hepburn added.
Will Hepburn manages The Kids Fund (KIDSX). He is President of Hepburn
Capital Management, LLC, a Registered Investment Advisor, and President of the
National Association of Active Investment Managers. He may be reached by
emailing Will@HepburnCapital.com, or by calling (800) 778-4610, by writing to
2069 Willow Creek Road, Prescott, AZ 86301 or by visiting our web site at
www.HepburnCapital.com or www.TheKidsFund.com.
The returns provided above are historical and shown for purely illustrative purposes. The
S&P 500 is an unmanaged index and individuals cannot invest directly in the index. No
consideration is made of costs that would have been incurred to an actively managed
portfolio of S&P 500 stocks. Past performance is not a guarantee of future returns.
Mutual funds involve risk including possible loss of principal. The Fund may
invest in small, less well-known companies, which may be subject to more erratic
market movements than large-cap stocks; foreign securities, which are subject to
currency fluctuations and political uncertainty;
may carry market, credit, and liquidity risks. These risks may result in greater
share price volatility.
Investors should carefully consider the investment objectives, risks, charges and
expenses of The Kids Fund. This and other important information about the Fund
is contained in the prospectus, which can be obtained by calling
888-549-7879. or visit http://www.thekidsfund.com . The prospectus should be read
carefully before investing. The Kids Fund is distributed by Northern Lights
Distributors, LLC member FINRA/SIPC.
