We all hope that one day we will have enough money to live off our savings and retire, but not everybody is willing to take the first step.
Why? Because the advice we received every day from the media and “experts” is often confusing and contradicting. Did you ever hope that there is some way to invest which requires little time, skill or serious effort?
Then you hear what you want to hear
- The future is unpredictable (ah, that is the reason investment can’t make money)
- Nobody can outperform the market (great, I am not alone)
- A monkey throwing darts can do better than an investment professional (really?)
- Buy and hold a low-cost index fund for 20 years will help you get rich (that is what I want!)
If you take these statements at face value, they may seem very convincing. After all, the idea of buying some blue-chip stocks, sit, relax and wait for your investment to reap sounds so enticing.
More than 93% of the people I met have no proper investment strategy but almost all of them say that they want to “buy some blue chip stocks and hold for at least 10 years”.
If you examine this “buy and hold” investment strategy carefully, you will find it severely flawed and makes little sense. In fact, it is probably one of the biggest investment lies. I will explain why.
Who really benefits from “buy and hold” strategy
If you pay attention, stockbrokers always give you “trading ideas”, but the fund managers or ETF providers always urge you to “buy and hold”.
This is because they all have different vested interest in what they promote.
- If you trade often, the stockbrokers earn more commissions, so they encourage you to trade.
- If you buy and hold, the ones who benefit the most are fund or ETF managers because they earn the annual fee as long as you “hold” the fund.
How about the data supporting buy and hold strategy?
You may have seen some research with decades of data showing buy-and-hold strategy has worked wonders. Let’s do a simple quiz.
Take a look at the two charts below, without looking at the answer, tell me which one do you think is a better performing fund?
The answer is…
Chart 1 is the S&P 500 index fund for the period of 2009 to 2013, while Chart 2 is the S&P 500 index fund for period 2006 to 2010.
Yes, they are the same fund!
There are three types of lies — lies, damn lies, and statistics. – Benjamin Disraeli
It is said nowadays people believe any data you put into a powerpoint slide. These well documented academic “research” may seem convincingly true, you really should scrutinize it further.
If you can appreciate the fact that most of the simple advice you have received is only half-true, you can start thinking about this logically.
Buy and hold strategy implies the price of a stock doesn’t matter
Do you buy anything without looking at the price? I bet you not.
But this strategy suggests that you buy at all times regardless of price or valuation. It says the best time to buy a stock is NOW and the best period to hold is FOREVER. Does that make sense to you?
If this is true, every year is a good year to buy stock. By just looking at the two charts above, does it make sense to you?
Buy and hold implies no intelligence is needed to make money
If I tell you that I have a method to make you rich with little or no effort, would you believe me? Maybe not.
How about someone comes to tell you that you can just mindlessly invest in something, don’t blink when the market tanks, and eventually you will emerge rich? will you believe that?
In the movie “Percy Jackson & The Lightning Thief”, when Percy got to the Underworld, he still seemed to have a hard time understanding that humans understand things in different ways. Grover (the satyr) said,
“Who says he’s seeing this place the way we’re seeing it? Humans see what they want to see.”
I guess he was talking about us. ^_^
Buy and hold implies that risk management is not needed
This is the most ridiculous part.
Do you have a door at home? Do you have a brake system in your car? Is there fire safety measures in your office? Should the unknowable future leave us to surrender our future to fate?
There are many things that can happen in 20 years or even 10 years. Have you switched your Nokia phone to iPhone or Galaxy? Do you still have Kodak film at home? Businesses come and go, stocks go up and go bust.
If things do not turn into what you have expected, should you just blindly hope things will get better or just exit?
Buy and hold is an offensive investment strategy
Many people chose buy-and-hold strategy because they think it is safer. They wrongly assumed that if trading is dangerous, the opposite must be safe.
Buy and hold works sometimes but it is a strategy that ignores the defensive half of the investing equation. It is like you are going to a war with only a sword but no shield.
Then how should I invest?
It’s not that buy-and-hold is a useless investment strategy, but I hope by now you understand
- Buy-and-Hold is wrongly marketed as an all-weather, all-condition investment solution.
- The supporting research is assuming certain special market environments
- You can discover the flaws by rational thinking
If you are my client, you know I use a simple “Global Momentum Compass” to track the markets. On contrary to what many people are doing, instead of focusing on what to buy, I focus on what NOT to buy.
The idea is very simple, if the issue with buy-and-hold is missing the other half of the investment equation, which is risk management, you can immediately improve your current investment portfolio by adding a “risk limiter”. Like what Napoleon Hill said,
Most great people have attained their greatest success just one step beyond their greatest failure.
You can improve your buy-and-hold investment portfolio tremendously by a simple tweak. The strategy of buying and holding investment assets is suitable for insurance companies, banks and other financial institutions who match the investment with their long-term liabilities. But it is hard for a retail investor to mimic the same.
As I always said,
There are a million ways to make a million.
I hope this article gives you a new perspective on this strategy and help you figure out how you can do better with your own investment. If you like this article, share it or leave your comment below and let’s discuss further.
I am not sure what I agree with what you are saying here. I don’t think that buy and hold is the best option, but I don’t think that it is a bad one either. Regardless, I think this is a great article with lots of good information. Thanks for sharing.
Hi, Courtney
Thank you for your comment. I am not saying buy and hold is a bad strategy, I am just saying it is not as good and practical as it appears. 🙂
It’s suitable for certain people during certain market conditions.
Buy and holding low cost all market index funds and ETFs while staying diversified with the assumption that markets will go up overtime, with an investment horizon of 2-4 decades and reasonable asset allocation using the “age” rule using bonds. Why would the above not work?
Hi, Pang Ka Ho,
I don’t know about you, but personally, I have never seen or even heard of anyone who ever puts his or her own money investing in such a strategy and succeeded.
What you described is a textbook theory that nobody has tested. There was no ETF 2 to 4 decades ago for retail investors; ETF does not diversify the market risks; the age rule is coined by marketers.
If we look this back 2 or 4 decades later about this. This may be a strategy that ever worked. But I won’t bet my money on it.
For 2 funds that perform at 5% per annum, it is clear that the ETF with expense ratio of 0.3% will outperform any unit trusts out there with expense ratio of 1.6%.
As much as 1 can advocate risk on risk off approach, one can only learn from the past to see that market trends upwards overall due to inflation and compulsory retirement savings by many government out there and this creates the natural demand in the market.
On top of that, though times are different from the past where technology is rather advanced as compared to the past, fast forward 30 years later, it should be rather clear that the technology today is dinosaur technology.
So if 1 is to advocate buy and hold, it makes complete sense. Of course, not hold junk that’s gonna go bust as mentioned in your article.
But nonetheless, great perspective to look at things and this is why the market is so interesting to have a huge group of people coming together with different perspective and drive the liquidity.
Cheers!
Hi, Investttorrrrrr
If this argument, “for 2 funds that perform at 5% per annum, the ETF with expense ratio of 0.3% will outperform any unit trusts out there with expense ratio of 1.6%”, is right, I can say that for an ETF and a stock that both perform at 5% per annum, the stock will outperform the ETF as there is no management fee to the stock.
My point is that ETF offers different values comparing to a stock, so does a unit trust.
Well, it’s 2 different instrument Ivan.
The reason why ETFs are created is because many funds underperform the index they are tracking therefore people created such an instrument.
Long term wise, results remain to be seen however if u are comparing a fund it’s index (tracked by ETFS), tell me how can a fund outperform it’s index in a time frame of 20 years while Paying extra 1% yearly.
No magic calculation needed.
Hi, Investorrrr,
As an individual investor, the index is meaningless. Because your objective is to maximize your wealth, not to outperform or track the index. If Straits Times index dropped 50% and you lost 50% of your money by investing STI ETF, would you be happy? I doubt so.
The ETF managers can do the job to track the index, but that is not what you need. Be it an ETF or an actively managed fund, I only care if they achieve the financial objectives that they promise. It is not a mathematical question.
Thanks Ivan…
You managed to explain this concept in a very layman terms that most people can relate to.
Hopefully, more retail folks can realise that making money from the financial markets is not as simple as just buying and holding…
Hi, Philip
Thank you for the encouragement. Hope people can understand this earlier before the Mr Markets take too much from them.
Hi Ivan,
Buy & hold is not no good. It depend when you buy and how much our ability to hold. If we buy low sell high, that mean the buy & hold make sense.
Thank you.
Jane
Hi, Jane
That is a legitimate assumption but let’s think about this again.
The concept of “buy and hold” is that you do not time the market and hold regardless of market condition, because stock markets generally appreciate in the long term.
However, the problem is not the ability to hold (as most “expert” advocate), but the ability to “buy low sell high”.
Low or high is relative. You are right to say “It depend when you buy”, but who has the answer of “when”? Is oil price of $50 high or low? Is 2016 a good year to buy or 2017? The stock price of Noble group dropped from $1 to 30 cents (70% drop!) in the past one year, when would have been a good time to buy?
It is not buy & hold is no good, but it is hard to execute in reality.
10 years ago, Nokia was the phone everybody loved, Kodak was the film everybody used, what happens to these good companies now? How long can we really hold a stock nowadays?
Dear Ivan,
Thanks for your advice.
If I used the buy and hold investment strategy I would have made less losses and more profits in my first venture at the share market.Why? I sold at losses when the market was still bad in 2008.
I was really pressured into selling when I aimed to hold it until the price recover to my buying price.Today, that share or stock rose more than my buying price in 2007. My losses were 6K, considered small sum by some but a huge loss for me.
If I had held it till today, I would have make some profits.
That’s life.
Hi, Cyril
I fully understand what you are saying because I have made the same mistakes as yours before. Rest assured you are not alone.
You see, from 1995 to 2014, S&P 500 stock index has returned 9.9% annualized return but average investors only made 2.5% annualize return during the same period. Why? Because Buy & Hold sounds good in theory but hardly anyone can practise it.
People may say Warren Buffett did it. Even if that is true (which I will explain why it is half true in the future), he is one in billions of people. So how much odds do you have?
Any strategy will work in certain kind of market environment (including money throwing darts), what I want to advocate is some way of investing which will give you a better odds comparing to others. So stay tuned… 🙂
Hi Ivan, I would like to check how do I get to know more about investment. As I am a cancer survivor and holding on to a full time job sometime is very tiring. Money is important to me but at certain point in time I am just dragging myself to work. However, that’s part n parcel of life, financially I am strugging as I not long can hold a good pay job but sustainable .Hence, I would like to check how to find out more on investment.
Hi, Yvonne
That is a good question. In fact, it is not only you, but many of us are struggling to find time to learn about investment. Investment is like the universe. The more you explore, the more you realize you don’t know.
My first advice is don’t treat investment as a job. I have shared in one of my earlier posts that no matter which life stage you are, money is not the goal of our lives. We should spend more effort living a life now than trying to live a better life in the future.
Secondly, the best investment is financial education. Not making losses in common financial pitfalls is equally important as making an investment profit. There are many great books which benefited me tremendously. You can start with these two:
I am also compiling some investment resources for the readers of this blog. You can subscribe to my updates and I will let you know once it is ready.
Dear Ivan,
Thank you for sharing, I will look out for these two books.