What is the best place to park the money while waiting for a sizable future market drop?

Question

For the past few years I have been investing in equity mutual funds via equal monthly installments (dollar cost averaging). With last year's drop in the market, I was willing to put a lump sum into these funds since they were available at far lower prices. But since I did not have such reserves, I could not take advantage of that rare opportunity.

I have emergency fund created for rainy days but I do not want to touch it for this purpose since that is not an objective of emergency fund.

I am an employee who receives a fixed monthly income. There is no way that I will receive a large amount of cash from anywhere. So if I want to make lump sum purchase after a sizable stock market correction, the only way for me is to build the lump sum fund in advance. To do this, I would have to divert a portion of my current monthly contributions. Doing this would reduce my equity exposure which is currently delivering a good return, beating inflation and taxes. The objective of lump sum investment would be to improve the return so that my investment goals would be met sooner.

A strategy frequently discussed is to park the money in debt funds or other similar safe assets like a bank account or fixed income. This seems like a good idea but it comes with drawback - I do not know when the size of market drop that I am waiting for will come. If it come after 5 years, the amount will have been in debt instruments for too long, underperforming equities. The benefit of investing a lump sum would be lost (or at-least reduced substantially) due to holding under performing asset for long.

What is the best place to park the money while waiting for a sizable future market drop?

Answer 1

You are essentially trying to time the market. Most people will fail trying to do this and will make less money than if they did not try to time the market.

For example, if the markets don't have a significant dip in 5 years then you have cash earning less money than it should be.

A much easier and better solution is to choose an asset allocation that you are happy with and rebalance periodically to maintain that asset allocation. For example, you could choose:

• 80% in a stock index ETF (e.g., S&P 500)
• 20% in a bond index ETF

Once a quarter or once a year you would shift your assets to get back to this desired allocation.

This reduces the pain of a big market drop but also allows you to always be taking advantage of market gains.

Answer 2

All of us would like to buy stocks, ETFs and/or mutual funds after every market correction or bear market but no one knows when such events will occur or at what price they will bottom out.

You have identified the problem with attempting to time the market. If right, you increase your return. If wrong, you lag the market.

With interest rates being so low, there isn't a good place to park the money (banks, money market funds, bond funds, etc.). As an alternative, I'd offer that on average, you can get about 5.25% yield from investment grade preferred stocks but they're not without risk. The primary one would be an increase in interest rates.

If anything, with this surge to all time highs, I'd be more concerned about protecting large market gains rather than finding the low after the next large correction. AKA, risk management.

Answer 3

I have been trying to do this as well. Like everyone above said timing markets comes with risk and missed opportunities. My current approach is to just carry about 2 to 5% in cash ( of my total investing portfolio) in a brokerage account which I use to buy what I consider a significant dips. I just buy sp500 index funds. Every time I invest the cash I replenish. Taking profits is equally important. This will also free up cash.