Five Big Flaws of Buy and Hold
Buy and hold is the predominate strategy for investing, preached by the industry especially when markets go down. It’s much easier to buy and hold when things are going up and your way.
Although I understand the merits of buying and holding, I also think there are some important flaws with this practice:
1. It ignores one of the fundamental strategies to making money.
It is tough for anyone to dispute that buy low, sell high is the one strategy that is guaranteed to make you money in investing. The problem with buy and hold is it can ignore one key component to making money – the sell. How can you make money if you never sell? And if you do not have a strategy to sell, then it is possible your success comes from chance. What if you need your money when the markets are down? Selling is a key component to making money. You can’t ignore it. How can you make money without selling? The key then is to develop a sell strategy which is just as important as the buy strategy. Most of the investment information out there is on how to buy as opposed to how to sell.
2. You shouldn’t buy and hold crap.
Think about it. If you buy crap and hold crap, what will you always have? The one thing you do not want in your portfolio. In other words, don’t buy and hold just for sake of buy and hold. Think about what you own before you hold. So how do you avoid crap? There’s only one way to avoid crap and that’s called research. Buying quality and holding quality makes some sense to me but how would you know if an investment is quality or crap without some research? Buy and hold is it only works if you pick decent investments.
3. Buy and hold is hard to do.
Many experts will show you a mountain of charts with the ups and downs of the market. They will tell you that markets go up about 70% of the time and down 30% of the time. So if you just get through the bad times, you will eventually get to the good times. I get it and I can appreciate the message of diversify and hold but at the same time, people’s emotions get in the way of buy and hold. Instinct says that you are willing to hang on as long as things are going your way and you are making money. But when times get tough it’s hard for people to hang on because instinct says ‘bail ship!”
The biggest hurdle to a successful buy and hold strategy is emotion or something I call the psychology of investing. We, as emotional investors, can’t help but buy high and sell low which is the opposite of what it takes to make money. Why is that? It’s called ‘linear extrapolation’ which simply means we can’t help but think in straight lines. When something is going up, we think it will continue to go up. And when something is going down, we can’t help but think it will continue to go down. As a result, we tend to chase winners and get rid of losers which is the opposite of buy low sell high.
4. Buy and hold does not work in retirement.
Retirement is supposed to be the best years of your life. If successful, that should mean shifting your investment focus from being a saver to a spender. What is important to recognize is becoming a spender means that you will likely draw an income from your retirement savings. This means that holding onto your investments can actually work against you. It’s all about the math. If you continue to take money out of mutual funds or stocks as markets go down, you may find that can have a devastating effect on the longevity of your portfolio. Buy and hold is a viable strategy when investing FOR retirement but may not be a great strategy when investing IN retirement.
5. Buy and hold creates complacency.
In a recent article in Investment Executive, a survey by the Bank of Montreal shows that 70% of people have no idea what they are invested in. That’s a pretty sad statistic. How much of that has to do with the fact that people are taught to buy something and forget about it for 10 to 20 years? How smart is that? My philosophy is different . . . No one cares about your money more than you care about your money. It’s time to care. It’s time to engage in your financial affairs. It’s time to engage in your portfolio and understand that buy and hold does not always work. Remember, buy and hold does not mean ignore.
So as you can see, buy and hold, although it appears to be the universally accepted strategy needs some caution. Don’t be buying and holding just for the sake of holding. Great investors have some strategy to sell.