Good morning! Today Troy continues about the investing for beginners series. You can check the previous posts about What 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.
Hmm you raise some interesting points, but when it comes to long-term investing you have to assume that you will live to an old age, regardless of what happens in reality. I don’t think that’s a bad thing and asking “what if I die young?” can be used to justify all sorts of behavior that isn’t necessarily beneficial.
DC @ Young Adult Money recently posted…Which Student Loan Repayment Plan Is Right For You?
DC – exactly 🙂 The YOLO arguement is good for the here and now, but there is usually a bad “hangover” when reality sets in!
Derek at MoneyAhoy recently posted…How to Achieve Great Success
Buy and Hold might have worked for other people but its not for me since i dont have the capital to invest in real estate. I still do admire Warren Buffet, i look up to him and always follow his advice on how to retire a millionaire. The passive income generation from assets way.
Jeff @Project Ikonz recently posted…Ebay side hustle is awesome and crap at the same time
I feel like this article is extremely misleading. The figures you give in much of this article are completely wrong. You are ignoring reinvesting of dividends, international investing, etc.
Also, you provide no alternate as to what to do with your money. Inflation is real and guaranteed through the Fed mandate to be targeted to 2%-3%. Investment returns are not guaranteed, but a diverse portfolio with international exposure is a VERY good way to get return in exchange for taking risk.
Derek at MoneyAhoy recently posted…How to Achieve Great Success
My thoughts exactly. I have read many arguments for, and many against, buy-and-hold strategies, and it all comes down to how much effort you want to put into your portfolio. The difference between this article and others is the others offer an alternative.
Perhaps the point is to make you check back and the next article will be the conclusion to this one? Either way, it was not a very well crafted argument. I will continue to buy and hold because I have better things to do than trying to time the market.
Buy and hold does not assume that disasters won’t happen. It assumes you have an emergency fund that will see you through if you lose your job during a recession. You should still stay the course with your investments, and continue to buy over time. As they say, buy early and often, diversify, only take on risk that is right for your circumstances (i.e., age in bonds), and stay the course. If you try to time the market, you almost certainly will lose.
Bryce @ Save and Conquer recently posted…Zero Income Tax in Retirement
I buy and hold with money I know I won’t need to touch (unless I encounter a true catastrophe). That way I can wait out the “downs” like 2008.
Agree with previous commenters. This post is the opposite of correct.
Buy and hold works for me. I guess if I only had a year left, I might not buy or hold….
Many people, including professionals, cannot beat the market.
85% of fund managers cannot. Even the professional money managers, if they by chance happen to beat the market, take 1-2% off the top. There is no way they can beat the market, by 1-2%, consistently. There has even been a study that says an average non-professional cannot even beat the rate of inflation.
I have bought stocks individually. I have seen them go up, and go down, but my 401K that I can’t monkey with out performs all.
No Nonsense Landlord recently posted…Tenant Turnover, the Landlord’s Dreaded Moment
Definitely an interesting post to say the least. Although I do agree with a lot of this, I do have to say it’s important to invest for a long term. Hey, I may not live 40 more years, but if I do, I want to be able to afford to survive without working!
Joshua @ CNA Finance recently posted…Synthetic Happiness And Money
Interesting post. I agree with many of your points, but I will continue to buy and hold. There is a chance I will die of a heart attack early, but the odds are too low for my to completely change my investing plan.
Also, we did have extreme prosperity in the past, but who says it is going to end now? There are a lot of small, emerging countries that are growing. The two largest countries in terms of population, India and China are seeing their citizens become middle-class which means they will want and demand more goods. The price for raw materials will rise, but the demand is there to justify this.
Jon @ Money Smart Guides recently posted…Betterment Review
A little depressing to read but I do agree with you. I love buy and hold but I also balance my life with some “fun” in between. Who wants to save, invest and deny even some pleasure to drop dead of a heart attack before you reach that golden year of financial independence.