Buy & Hope

After what we've experienced these past 18 months in the investment markets, it is tempting to throw out the age-old wisdom that we should buy and hold our investments. We might begin to question Warren Buffet's adage that the ideal holding period for a stock is "forever."

However, I would implore readers not to react hastily and toss out this investment rule simply because of recent events. I instead implore readers to toss it out without regard to recent events! I tossed it out years ago, even while it was working.

The notion behind "Buy and Hold" -- or what I prefer to call "Buy and Hope" -- is that stocks are always and everywhere priced fairly. That is, they are never too cheap or too expensive, and you are foolish to try to divine anything different. Why? Because economic theory says so.

(Or, rather economic conjecture says so. In the real sciences, ideas supported only by argument or math are mere conjectures -- educated guesses. They only rise to the level of theory upon proof by repeatable out-of-sample experiment. Economics is alone among the "sciences" in that it awards prizes and honors solely based upon the elegance of the argument, not based on whether the argument is actually true or not. So anyway...)

The Buy and Hold devotees will suggest that, in the long run, everything works out fine and that average returns will accrue to you if only you are patient. And this is nonsense. Average returns assume that you bought at the average price. As I wrote in my most recent quarterly letter, the actual price of stocks, when measured in appropriate units, varies all over the place. History (and common sense) tell us that the higher the price you pay, the lower will be your returns.

Ah, perhaps true, say the Buy and Hold folks. But the long run will bail you out. And I say -- no, it won't. If you pay too much for stocks, you are screwed. For the long run. If you bought at the PE peak of 1966, you have done worse over that whole time by owning stocks than if you merely rolled over 3-year Treasury notes. 43 years and you're still worse off than a bond investor. Sure, I like the idea of "the long run" -- but, really, just how long am I supposed to wait?

If you bought at the peak of March 2000, you will probably be sitting there 40 years from now wishing you hadn't.

Back to "Buy and Hold" -- Buffet is right, but only if, like he, you buy on the cheap. The idea of hanging on through thick and thin must still begin with the initial wise investment decision. If you buy an asset cheaply, it will almost certainly pay off for you if you are patient. If you pay too much, it will almost certainly disappoint you, no matter how long you hold onto it.

In our view, Buying and Holding is a subset of our overarching theme of tactical allocation. Buy cheap and hold the asset; sell expensive assets and look for something better. There is never a place for a pollyannish view that one can blindly buy broad asset classes and then strap in and hope for the best.

In the usual bass-ackwards way they serve their customers, big advisory firms are now suggesting that perhaps clients shouldn't expect to buy and hold all the time. The paradox here is that the current market has moved into the price conditions that will probably make Buy and Hold a wise strategy for a number of asset classes for a while. Many advisors and investors will switch back to the Buy and Hold mantra as these assets begin to get expensive again; we hope to be moving out at that time. And the cycle will go on.