Good morning! TodayTroy continues about the investing for beginners series.You can check the previous posts aboutWhat are stocks and how to value them,How does Currency Trading Work,How are Currencies Traded,Investing in Commodities,What Fundamentals Affect Commodity Prices,What are ETF’s,What are Options,How are Options’ Prices Structured,Investing for Beginners Part 2 – Different Investment Strategies
Buy and hold is the most common investment strategy out there. But you know what the problem is? Most people are doing it wrong! The part about “buy and hold” that Warren Buffett isn’t telling you is exactly what you should know if you do decide to buy and hold! In this post, I’m going to explain when “buy and hold” does not work. In the next post, I’ll show you how to make buy and hold work using an unconventional method.
Buy and hold is based upon a simple indestructible belief – over a long, long period of time (in a galaxy far, far away 😛 ), markets go up. Therefore, the savvy investor buys whatever investment he wants to buy, holds it for 40 years, and when he retires, he’ll be a bajillionaire! Warren Buffett said this, so he must be right! Don’t bet against America!
All jokes aside, Warren Buffett (and all those other politically-tied yahoos out there) are putting you out of the loop. You’re missing out on some key information here!
Fact Check #1: Markets Don’t Always go Up
The buy and holder’s basic belief rests on this – over the past 60 years, the average compounded return for the Dow Jones is 7% a year. Extrapolating into the future, the market will (over the long term) always deliver 7% a year.
As my grandpa liked to say “Na ah guys. Y’all getting it wrong.” These past 60 years in America (and much of the West) have been an era of unprecedented economic prosperity. You simply cannot extrapolate America’s Golden Age infinitely into the future. It’s like the 2nd century Romans saying that Roman engineering would always increase at 8% a year forever and ever. If that had happened, we would not have had the Dark Ages. This period of unprecedented economic growth (and stock market growth) is about to end – too many factors do not support such a historical anomally.
1. Rising raw material prices. When commodity prices rise, companies and their stock prices get hurt.
2. Technological bottleneck. Technology does not always advance at the same steady pace year after year. There can be decades without any significant technological breakthroughs, and then massive breakthroughs all of a sudden (eg the 1980s and 1990s). Over the past 10 years, nothing game-changing has really come out (and no, nanotechnology is not quite there yet). According to industry experts, “only improvements have been made”. iPads get thinner and thinner. The iPhone is really just an iPod with cellular capabilities.
If you look at other markets besides the stock market, things get even more depressing. If you “buy and hold gold” since 1980, you would have made a grand total of 40% over these 33 years. That’s less than what U.S. 30 year Treasury bonds are paying out!
So the “markets always go up” is actually a misnomer. It should be “the stock market always goes up, but cannot guarantee an average of 7% per year”.
Assuming You’ll Live 40 Years
Buy and hold assumes that you are actually able to “hold”. But what if (God forbid) you drop dead from a heart attack when you’re 53? After saving up all the money and reinvesting it into the stock market you die from a disease, wouldn’t your “buy and hold dreams” just have been wasted?
The conventional idea behind buy and hold is actually just another name for Get Rich Slow. Get Rich Slow is practically synonymous with Get Rich Old. Here’s why that’s not something you should bank on.
Assuming No Financial Disasters Happen in 40 Years
In order to buy and hold & get rich old, you need to make assumptions. You have to assume that your plan will work out to the letter, because the one thing that “buy and hold” cannot withstand is a surprise. And we all know that the weirdest and most improbably things can happen. An event like the 2008 market crash should have happened like once in 9 million years. Well it happened in our lifetime. Buy and hold assumes that you won’t face any financial difficulties.
What if you lost your job in a recession? The stock market has cratered by 50%, but to make ends meet at home, you’re forced to sell your investment portfolio at whatever price you can get (which is usually the lowest price).
For Warren Buffett, buy and hold is easy. Even if his wallet takes a 99% hit (mayday, mayday), he’ll still have $500 million left. If you lose your job, you’ll probably be forced to sell whatever you own just to put food on the table.
FAQs
It implies zero transaction activity is optimal which is mathematically false. Buy and hold is a purely offensive investment strategy that ignores the defensive half of the investing equation - risk management. It implies risk is something to be accepted rather than controlled.
What are the problems with buy-and-hold strategy? ›
Buy and hold is also favorable for investors without a lot of time to spend researching the market. The biggest disadvantage of the buy and hold strategy is that it will tie up large amounts of capital. Like all investors, buy and holders should use diversification to sufficiently protect themselves from risk.
Is buy-and-hold risky? ›
Market volatility is an inherent risk in any investment strategy, including buy and hold. During periods of market downturn, the value of investments can decrease significantly, causing concern for investors.
What happened to buy-and-hold? ›
It still has a place in a modern investors portfolio, but newer strategies are being utilized to capture profits from the increased volatility of the market. The market is more dynamic than ever, and investors will miss out on gains from shorter term movements if they continue to buy-and-hold.
Why won t my stock order go through? ›
Your order won't be filled if there aren't enough shares available at the specified price or number. This occurs most frequently with large orders placed on low-volume securities.
Why is my buy limit not working? ›
Why Is My Limit Order Not Being Filled? Bear in mind that, for a buy limit order, you've set the highest price at which you want to buy shares. Thus, your order fills only if the market trades at that price or better. If the market is trading above your limit price, there's no guarantee your order will be executed.
Is buy-and-hold better than trading? ›
"Buy and hold can result in significant long-term capital gains, which are often taxed at a lower rate than short-term gains," says Collins. On the other hand, he adds, it may take longer for buy-and-hold investors to see returns, compared with using a more active trading strategy.
How do you make money from buy-and-hold? ›
Buy and hold is a long-term passive strategy where investors keep a relatively stable portfolio over time, regardless of short-term fluctuations. Buy and hold investors tend to outperform active management, on average, over longer time horizons and after fees, and they can typically defer capital gains taxes.
How long do you have to hold a stock to avoid taxes? ›
Generally, any profit you make on the sale of an asset is taxable at either 0%, 15% or 20% if you held the shares for more than a year, or at your ordinary tax rate if you held the shares for a year or less. Any dividends you receive from a stock are also usually taxable.
Should you buy-and-hold stocks forever? ›
Your investment will grow with compound interest
A buy-and-hold strategy can also help you take advantage of compound interest. While past performance is not a guarantee of future returns, the S&P 500's inflation-adjusted annual average return on investment is about 7%.
(1) Buy-and-hold abnormal return approach (BHAR)
Buy-and-hold is an investment strategy where an investor buys stocks and holds them for a long time. The BHAR grounds on this strategy and calculates abnormal returns by deducting the normal buy-and-hold return from the realized buy-and-hold return.
What is the buy-and-hold exit strategy? ›
Buy & Hold - Buy an investment property and hold onto it for an extended period of time, usually five to 10 years or longer. Source. Sell to Another Investor - Sell the property to another investor who is looking for a long-term investment.
How do you calculate buy and hold? ›
The formula for calculating returns using a Buy-and-hold strategy is return = initial investment + (final market value - initial market value) .
What is the buy and hold ETF strategy? ›
What does “buy and hold” mean? The basic idea is to buy a security or fund at a certain point in time and then hold it for the entire planned investment period. It is assumed that the investment will increase in value over time due to the growth potential of the underlying market.
Which stocks to buy and hold? ›
- Accumalate Tata Motors, target price Rs 1254: Prabhudas Lilladher5 Aug 2024, 09:36.
- Hold Escorts Kubota, target price Rs 4350: Anand Rathi 5 Aug 2024, 09:29.
- Buy Titan Company, target price Rs 4000: Motilal Oswal5 Aug 2024, 09:24.
- Buy Tube Investments of India, target price Rs 4740: Motilal Oswal5 Aug 2024, 09:20.
Buy and hold investors tend to outperform active management, on average, over longer time horizons and after fees, and they can typically defer capital gains taxes.
Is it better to buy and sell or buy-and-hold? ›
For most investors, a buy-and-hold strategy can result in quicker loss recovery, even after a bear market, when a major index like the S&P 500 falls by more than 20% from its recent high. As an example, let's say you invested $1,000 in the S&P 500 on January 1, 2008. That year, the S&P 500 lost 37% of its value.
Why does buy low sell high not work? ›
Normally, traders tend to panic when markets come down and tend to get greedy at market tops, whereas in reality it should be the other way around. This psychology becomes a big barrier for traders to buy at lower levels and to sell at higher levels. Liquidity and funds flow also make a difference to your decision.
How to do the buy-and-hold strategy? ›
With buy and hold, you buy a stock or other equity and hold onto it. In other words, you don't sell it. The strategy behind buy and sell investing is that if you hold onto an asset long enough, even if there is volatility in the market, the asset may gain value.
