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Article from Individual Investor Magazine

Timing is Everything by Stephen Gandel

Out of the Chester Boot Shop in Roseville, Mich., Don Wolanchuk peddles Doc Martens shoes, leather vests, 10-gallon hats—and stock tips. Wolanchuk is the largest Doc Martens dealer in the Detroit area and, by some accounts, one of the greatest market seers ever. Patrons pay either $2.75 a minute, or $8,000 a year, to access his market advice on a 900 number. Calls come in from around the country, and Wolanchuk says someone at George Soros' fund management company phones regularly. Timer Digest, a Greenwich, Conn., newsletter that tracks about 100 investment advisers, clocked Wolanchuk's forecasts over the past eight years at a 20.2% annualized return, beating the Standard & Poor's 500-stock index by an average 3.6 percentage points. So why is Wolanchuk selling shoes instead of skippering a multibillion-dollar hedge fund? That's easy: because he's a market timer, and has the nerve to be out of the closet about it.

Market timing—predicting the stock market's tops and bottoms, and moving quickly from cash to stocks and back again in anticipation of them—is one of the Street's biggest taboos. So how did 94% of 36 market timers tracked by Steve Shellans of MoniResearch beat the S&P 500 during the third-quarter downturn, and why have 33% never had a bad quarter in five years? Is market timing unfairly condemned? Probably. But investors hoping to capitalize on the strategy better beware: It's easier said than done.

The Worst of Times

Only recently, somewhere along the rocket-like trajectory of the greatest bull market ever, did market timing become verboten. ("As a market timer with a 900 number, I'm working against the two worst reputations in this world," Wolanchuk quips.) It was big in the 1970s, during the flat market. And timers such as Elaine Garzarelli, who alerted clients to sell shortly before Black Monday in 1987, made some good calls in the '80s. So why did market timing become such dirty words?

A number of bad calls, including Garzarelli's 1996 bear cry that sullied her reputation, turned big-name market timers into bull market roadkill. The growing dominance of mutual fund investing also set market timers back, because portfolio managers detest mass movements out of their funds, which can exaggerate losses if the fund has to liquidate positions to cash out investors. Timers themselves can come off as a pretty wacky breed, with Wolanchuk a textbook example: "Individual investors don't have a chance," he says. "The boys in the back rooms of Goldman Sachs and other institutions have the market rigged."

But for all that, closet timers abound. "Asset allocation models are clearly market timing," says Edward Yardeni, chief economist at Deutsche Bank Securities. Set by top strategists at brokerages and investment banks, the models tell investors how to divide their dollars among stocks, cash, and bonds. Some analysts change their allocation models quarterly, if not monthly. Greg Smith, chief investment strategist at Prudential Securities, discourages short-term investing, but his asset allocation model seems to recommend it: He modified it 10 times in 1998, twice in October alone. The always ebullient Abby Joseph Cohen of Goldman Sachs may seem like the poster gal for buy and hold, but even she changed her allocation model in October, upping her weighting in stocks to 65% from 60% and lowering the cash position to 5% from 10%.

Many fund managers time the market, too, though most, like Robert M. Gintel of Gintel & Co., recoil when asked about it. "I'm not even sure what the term market timing means," Gintel says. Still, consider his behavior. Early last year, Gintel began selling his holdings. Since then, the cash position of the Gintel fund has grown to $43 million, or 31% of the portfolio. Now Gintel sees a more stable market, so he's buying again. But don't call him, well, one of those guys. "I'm not buying this month because I think the market is going to go up," he protests, "but because I see companies I want to invest in." Robert J. Markman, who manages funds-of-funds portfolios at Markman Capital Management, says timing doesn't offer any long-term payoff. But he recently shifted his portfolio from its traditional stance of 50% in large-cap funds to 95% and cut his international exposure. "Market timing is making a broad call on the market, like when you get out of stocks and into cash," he says. "I'm just managing money." Huh?

Carolyn Mertens, president of the Society of Asset Allocators and Fund Timers, thinks guys like Markman are fooling themselves. "The majority of our members do the same thing as any fund manager," she says. "They're protecting their assets, and that's what market timing is today."

Theory into Practice

For such a simple concept, market timing is amazingly difficult to pull off. "The fact that most people have failed at it doesn't mean it can't be done. It just means that most people don't know how," says Kenneth S. Ray, president of Æxpert Advisers. Don Wolanchuk says the first step is realizing that bottom lines and balance sheets are worthless. "Individuals are trained to believe that the market moves on all that fundamental stuff, but that's a smoke screen," he says.

Many market timers lean toward technical indicators, such as advance/decline lines, which track the number of stocks going up versus the number of losers, but Wolanchuk prefers the esoteric. It takes a sophisticated understanding of mathematics to follow his favorite tools. For instance, Wolanchuk believes the market is ruled by Fibonacci sequences—number patterns that seem to determine the architecture of all nature's bounty, from the number of petals on a sunflower to the shape and size of a shell—and he is a follower of Elliot Wave Theory, which says the market moves in a predictable, five-wave sequences: three waves moving in the direction of a trend, alternating with two counterwaves. Through the course of any day, he will look at reams of data from oscillator patterns, which measure the strength of the market, to put/call ratios, which gauge the direction options investors are betting the market will go. But even Wolanchuk, one of the cockier timers around, agrees: picking market tops and bottoms is more art than science.

What's Good for the Goose...

Then again, so is picking the Next Great Growth Stock. So should we all start timing the market? "If you are a conservative investor, modest market timing makes sense," says Warren Boroson, editor of the newsletter Mutual Fund Digest. "And the older you are, the more you should tilt toward having money in a market-timing fund." Two he likes are Vanguard Asset Allocation, which was up 16.1% this year through October and has returned an average of 21.4% annually over the past three years, and Merriman Asset Allocation, which uses four timing indicators to spread risk. Merriman, however, hasn't performed well—it has returned an average of only 10.8% annually for the past three years (compared to an S&P 500 return of 25.4%).

Michael O'Higgins, who invented the Dow Dogs strategy, is one of the few portfolio managers who does recommend that individuals time the market, though he strongly warns, "People do too much of it." In his new book, Beating the Dow with Bonds (HarperBusiness), O'Higgins suggests investors make a timing call once a year, deciding whether to invest in stocks or bonds, based on the earnings yield of stocks. If the earnings yield of the Dow Jones industrial average and the S&P 500 is less than the interest investors would get on 30-year Treasuries, then O'Higgins opts for bonds. Of course, that strategy would have taken you out of stocks in the early 1980s, missing that decade's bull market. Currently, O'Higgins owns zero coupon bonds, and his newly formed O'Higgins fund was up 24% through the first three quarters of 1998.

What makes Wolanchuk's 10-year performance so incredible? Market timers, he says, tend to overplay their bearish hands. "I learned early on that to be king of the market timers, you just had to be bullish as hell," he says. And it has worked (at least in the abstract: Wolanchuk's performance is based on his market calls; he has never managed a fund). Based on his telephone service, at the end of last year, Timer Digest ranked him the best market timer for 1997. He also won the award for best timer for the past eight-year, five-year, three-year, and two-year periods.

Wolanchuk doesn't see the market turning down again soon. "I think the Dow can hit 16,000 in the next couple of months," he says. It's that type of prediction that can make even loyal Wolanchuk followers shake their heads. But consider this: in 1989, when the Dow was near 2700, Wolanchuk predicted the 1990s would end over 10,000. Earlier this year it flirted with 9400, and there's still 12 months to go.