“Buy-And-Forget” Is Not The Same As “Buy-And-Hold”
“Buy-and-Forget” investing is similar in some ways to “Buy-and-Hold” investing. But there are also important differences between the two concepts.
The thing that is the same with the two strategies is that the investor is making few changes in his portfolio over time. He makes his choices and then sticks with them for the long term. The thing that is good about both of these strategies is that it is important in stock investing to stick with a strategy long enough for it to pay off. Investors who jump from one thing to another rarely achieve strong long-term results.
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Q2 2022 hedge fund letters, conferences and more
What Investors Need To Know When Choosing A Private Equity Manager
It’s no secret that this year has been a volatile one for the markets. The S&P 500 is down 18% year to date, while the Nasdaq Composite is off by 27% year to date. Meanwhile, the VIX, a key measure of volatility, is up 49% year to date at 24.72. However, it has spiked as Read More
However, Buy-and-Hold is gravely flawed. Buy-and-Forget makes a lot more sense.
The Difference Between Buy-and-Forget And Buy-And-Hold
Buy-and-Forget is generally associated with Warren Buffett and his value investing approach. Buffett puts a great deal of thought and research into picking stocks to add to his portfolio. Given the amount of work directed to choosing the stocks, it makes sense to stick with the choices for a good amount of time. Good stocks can drop in price for short amounts of time. It is foolish to abandon them because of a temporary bad performance. Buffett’s idea is to put in the work before making the stock selections and then to “forget” about them while time brings their price to where it should be and provides profits for the investor.
Buy-and-Hold is a strategy generally followed by index investors. The idea again is to stick with one’s choices for the long term. But index investors do not put in the front-end thought and research that is typical for those picking individual stocks. This is the fatal flaw of Buy-and-Hold. With Buy-and-Forget, the investor does the work needed to insure that his choices are good ones. So he can have confidence that they will pay off if he sticks with them long enough. Buy-and-Hold investors do not make an effort to ensure that their choices are good ones. In many circumstances they will be making poor investment choices that are not likely to pay off in the long term.
For example, the market was so overpriced in January 2000 that the likely 10-year annualized return was a negative number. Obviously not a sound investment choice! But millions of investors stuck with their high stock allocations in January 2000 because they had been assured by experts that stocks are always a good choice for the long term. Not so! That myth is the product of the long-discredited belief in the Efficient Market Theory. If investors set stock prices rationally, stocks really would always be a good choice and Buy-and-Hold would be the ideal strategy. But Shiller showed that the value proposition of stocks is variable; it depends on the valuation level that applies on the day the purchase is made. Purchase stocks at a bad time and holding them for a long time works against you. Even stocks purchased at crazy prices can provide good results for short periods of time. But in the long run overpriced stocks do not represent a good investment choice.
The Dangers Of Over Valuation
When the market as a whole is greatly overpriced, even well-picked individual stocks can be a problematic choice. But the investor picking individual stocks is far better protected from the dangers of overvaluation than the index investor. Indexers are going to do as well or as poorly as the market as a whole. Those who pick individual stocks can outperform the market as a benefit of their research abilities.
My thought is that even those picking individual stocks would be well advised to lower their stock allocation when stock prices are completely bonkers. And Buffett has indeed at times shown a willingness to cut back on his stock investing a bit. Benjamin Graham, the most famous value investor in the days before Buffett, was the first Valuation-Informed Indexer. He argued that it made sense for an investor who went with a 50 percent stock allocation at times when stocks were reasonably priced to go with a 25 percent allocation when prices were crazy high and with a 75 percent allocation when prices were crazy low.
It makes all the sense in the world for investors to take a long-term approach to the subject of stock investing. But, to make it to the long-term, investors need to survive time-periods in which their confidence in their investment choices may be challenged. Those who pick individual stocks will be aided by the fortitude that comes with investing only in stocks that they have studied in great depth. They are more likely to be able to hang on through the bad times than investors who are investing in the market as a whole as if the market as a whole always offered the same value proposition. For indexers, it is critical to look at valuations before making purchases so that the investor knows what he is getting into when he makes a stock investment choice.
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Updated on Aug 9, 2022, 9:26 am