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Buy and Hold: Cracks in the wall


There is the theory that one can buy stocks or an index, and hold for a long long time, and boom, we have a winner.

This theory has been peddled to unsuspecting investors time and time again, and for a while I believed it myself; fortunately, I have no problem changing my mind when the facts show me the way. About three or four years ago, I switched to the view that a “stop loss” is the single most effective thing one can have on a portfolio; it lets you ride a bull run and stops you out on the way down.

Livemint has an article today about how the cracks in the long-term-buy-and-hold wall are starting to appear:

The premise that in the long-term equities will generate the highest risk-weighted returns is getting challenged with each passing day.

In the US, the S&P 500 total returns index has underperformed long-term treasury bonds for five-year, 10-year and 25-year periods. This is based on Ibbotson data quoted by Peter Bernstein in a recent Financial Times article.

While Indian markets have retained a large part of the gains made in the April 2003 to January 2008 rally, long-term returns have started faltering. In January 2008, the Sensex index on the Bombay Stock Exchange had delivered an average annual return of 22% based on total returns (capital appreciation plus dividend) for a 10-year period. Its average annual 10-year returns have now halved to 11%. Note that early 2008 as well early 2009 didn’t represent an unusually high-low base.

Consider some data. If you invested in the Sensex LOW of 1992, a low of 1945, and held to date, your return would be a compounded 8.93%. [Not counting dividends, which add about 1.5-2%]. This is substantially lower than what most people imagine; I have seen the boom time figures of 25%, but even today, people imagine that over the long term one would easily make 15% on an index. Not quite, as it seems.

And that was investing at the lows of 1992. An investment at the high would yield a measly 3.62%.

Now I’m only taking the Sensex since 92 as I have reliable data for it from the BSE site. It’s entirely likely you will find another 17 year period when this isn’t so, when the returns have been reasonably good. But here’s the clincher: It doesn’t matter, because even one negative data point disproves the theory that long term buy and hold always works.

(Think Individual Stocks are Better? Tata Steel, Hindalco, Tata Motors, Hindustan Unilever etc. have been flat over the last 10 years or so. Arvind Mills, which hit a high of 400 in 1992, trades at around Rs. 10 today, with no splits/bonuses since).

Take the US. It’s at 1996 levels. That’s 12 years of nothingness? The US in 1982 was after 16 years of nothingness (counted from the highs of course), and there was a much longer period after the great depression and just before it, when buying and holding wouldn’t have done much for you.

Now for the reality check: What matters most to you is when YOU need your money. Someone who was 45 in 1992 would have really liked the money today – at about 62. Yet what’s coming out isn’t great – a return of 6% at best on the index. In 1992, one would have gotten 12-14% in Fixed Deposits (and that was the case till nearly 2002).

What if the next 20 years are nothingness? I see that for the US markets, for at least 10…given that most of the buy-and-hold public bought their stuff at around the 10K level on the Dow. It might end up at that for India as well, though I hope not – but one can’t write it off. At the end of 20 years I definitely want my money, compounded at at least 12% – can I get it?

Buy and hold isn’t going to get me there. I don’t know of SIP investing will (it didn’t in Japan). But I know using a 15% stop loss has worked for me. If I were able to define a proper entry point (say entry on a 52 week high) I might be able to back test it as well and see if it worked better on the Index – should think it probably did.

To end, here’s a US report:

Buying 30-year Treasuries is returning more than stocks for the first time since Jimmy Carter was president.

For three decades, owning equities in developed countries earned more than “on-the-run” 30-year government bonds. The advantage reversed after $36 trillion was erased from equity markets since October 2007 amid the first simultaneous recessions in the U.S., Europe and Japan since World War II.


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