Is buy-and-hold dead?
Comment of the Day

April 30 2013

Commentary by Eoin Treacy

Is buy-and-hold dead?

Thanks to a subscriber for this well-illustrated report by Richard Bernstein which may be of interest to subscribers. Here is a section
In Navigate the Noise – Investing in the New Age of Media and Hype (Wiley: 2001), I pointed out that investment returns can be significantly hurt by strategies based on short-term, noise-driven strategies. The data clearly and consistently showed that extending one's investment time horizon was a simple method for improving investment returns. Eleven years later, those conclusions remain very much intact. There are sound economic reasons why extending one's time horizon can benefit investment returns. Changes within the economy tend to be very gradual, and significant adjustments rarely happen within a short period of time.

Certainly, there is plenty of daily news, but how much of that news is actually important and worth acting on? The data suggest very little of that information is meaningful and valuable. Most of it is simply noise. Chart 1 shows the probability of losing money in the S&P 500 based on varying time horizons. As one extends one's investment time horizon, and increasingly focuses on the fundamentals of the slow-moving economy, the probability of losing money decreases. In fact, short-term trading is like flipping a coin; it is virtually a 50/50 proposition.

Eoin Treacy's view We all seek to learn from our mistakes but we also need to learn when to apply those lessons. In the aftermath of the Tech bubble, buy and hold investors were left holding a great deal of inventory at the bottom. Following the credit crisis, a large number of buy and hold investors saw their life savings evaporate as bank shares plummeted. Some of these people swore off ever investing in shares again. Some sought asylum in the government bond markets where many participants continue to employ a buy and hold strategy.

Having the strength of one's convictions is an admirable quality and if employed in a trending market will ensure that we stick with a position. Provided the primary trend is upwards, sitting through occasional corrections will be rewarded. This serves as a conditioning process. It we are rewarded for our fealty to an investment hypothesis despite short-term anxiety, we are more likely to accept additional tests in the hopes of greater rewards. For many people this makes selling when there is evidence of topping activity progressively harder the longer they have held the position.

A buy and hold strategy is a sound investment policy that is really only appropriate in a trending market. In a ranging market, one's position is likely to be loss making as often as it is in profit depending on the average entry point. Therefore an ability to identify the consistency of a trend and an appreciation of how to identify the primary trend ending characteristics is invaluable if one wants to pursue such an investment strategy.

The Chart Seminar focuses on these topics and I expect the discussion at next week's event to centre on the outlook for stock markets many of which have been largely rangebound for 13 years, bonds which have been trending higher for 33 years and gold which has so recently pulled back sharply. Please contact Sarah Barnes at [email protected] to express your interest.

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