Buy and Hold Investing
Happy New Year all my readers. In this New Year, I want to inculcate the idea of buy and hold investing to my clients and readers.
The idea of buy and hold was popularized in the US by warren buffett, the guru of value investing.
The idea behind buy and hold has been that one should buy the stocks of the really good companies at a really good price and hold them for the long term (sometimes over decades) without concerning ourselves with the short term swings in the stock market.
A few commentators project buy and hold investing as a form of investing requiring no thinking and analysis. All one needs to do is to go ahead and buy an Infosys or a levers or titan at any valuations and just hold onto it. One does not even need to check on the performance of the company, even briefly, on an annual basis.
These commentators point out to investors who made an investment in a levers or Infosys years ago, just sat on their positions and are now comfortably rich. This is survivorship bias. For every levers or Infosys, there is a company, which went bust or went nowhere.
Buy and hold is not brainless investing!!
It requires work, even if there is no activity (read – trading). It may sound easy, but it is not.
Why are there no such recommendations?
The idea behind buy and hold has been that one should buy the stocks of the really good companies at a really good price and hold them for the long term (sometimes over decades) without concerning ourselves with the short term swings in the stock market.
A few commentators project buy and hold investing as a form of investing requiring no thinking and analysis. All one needs to do is to go ahead and buy an Infosys or a levers or titan at any valuations and just hold onto it. One does not even need to check on the performance of the company, even briefly, on an annual basis.
These commentators point out to investors who made an investment in a levers or Infosys years ago, just sat on their positions and are now comfortably rich. This is survivorship bias. For every levers or Infosys, there is a company, which went bust or went nowhere.
Buy and hold is not brainless investing!!
It requires work, even if there is no activity (read – trading). It may sound easy, but it is not.
Why are there no such recommendations?
You may wonder, why one cannot find such recommendations from brokers or analysts. Why don’t they identify such companies and recommend it to investors?
Let me take an example. As far back as 2000, in spite of being a novice, I had a decent amount of conviction that Asian paints was a good company Now lets assume you are my client. Let’s say in 2000, I recommend this stock and you pay me a commission.
You come back next year and we have this conversation
you: So Madam, what should I do with Asian paints?
Me: Nothing. The company’s doing well. Just hold on to it. By the way, you will be getting a bill for my recommendation next month
You (thinking) : What ??!! This dude did nothing for me this year and is charging me. I am not coming back
So I assume you get the point why brokers and tipsters cannot make a living by giving out such buy and hold ideas which can make you rich.
Please note that the advisor is still doing work. He or she has to keep analyzing the company and track how it is doing. The only difference is that as long as the company keeps doing well, there is no need to trade the stock.
The unfortunate reality is that most investors believe some activity is needed to make money and on top of that if an advisor is to be paid, he or she should be ‘doing’ something.
Is it relevant now?
I feel like a dinosaur these days, especially when talking to my friends. If I point out to long term stock ideas, the same friends are quick to point out the fantastic returns they have been able to make in the last 6 months on midcaps and micro caps.
Why wait for the long term when one can get instant gratification!
The problem with a short-term approach, disconnected from an underlying philosophy, is that it works till the going is good. If the market turns south, then the same investors would lose their shirt and all their undergarments and would start singing the buy and hold tune.
An investing philosophy should be based on fundamentals and not on the current fads of the market.
How to practice buy and hold?
I personally do not believe in going and buying a stock blindly and then holding on to it forever (hoping it will do well). I think one should be able to identify on the basis of a reasonable amount of analysis and experience a list of good, long-term ideas.
What should be the characteristics of such companies?
A decent operating history – The Company should have been in the business over 10 years with an above average record of performance.
The company should have a strong competitive position in the industry so it can sustain its above average performance in the long run
Decent to attractive industry with minimal change – It is important to avoid industries with a lot of change (ex: telecom) or currently in a decline. In addition, commodity type industries are also not a great place to find such ideas, though one cannot rule it out.
The hit by truck test – If the unfortunate happens, can you leave the stock untouched in your account as an asset for your family?
The key is to identify a list of such attractive ideas and invest a small amount of money in it (if the valuation are not too high). Once you do that, you need to start following the company and the industry on a regular basis. In time, over a few years, you will become more and more comfortable with the long-term prospects of the company.
The idea is not keep adding money as you become more confident of the long-term prospects of the company (long term being more than 5 years). One needs to be patient and should let the opportunity come to you. When the market drops due to some short-term concern, it is time to add a meaningful amount of money to some of these ideas.
If there is a big discount I will certainly buy irrespective of the market level. Of course, most of the times this approach takes you out of the market at highs and makes you more active when the market is tanking.
The above approach is not easy. It requires effort and patience. However if you can build a portfolio of 4-5 such companies, you are set for life. My tactics is to buy good fundamental companies paying uninterrupted dividends, at a discount and sell most of the portion at the market highs and thus a small portion say about 1000 shares will remain for ever in my hands as free shares, which were ultimately acquired out of the profit made.
I primarily invest for my family and myself and prefer a buy and hold (not buy and forget) approach. My personal portfolio is low on risk and volatility.
It may be possible to get higher returns through alternative approaches. However I have found that value investing suits my temperament and the returns I have made are more than satisfactory for me.
However, after 4 years of learning, all I had to show was a drop of 15% in personal investments and of course a lot of learning in terms of what not to do.
The reason, I think I never gave up was because I was already in love with investing and reading and so was not very disappointed by the losses. By the way, I had still done better than the market averages. Why is that important? I will come to it by the end of my investment journey.
It may be possible to get higher returns through alternative approaches. However I have found that value investing suits my temperament and the returns I have made are more than satisfactory for me.
However, after 4 years of learning, all I had to show was a drop of 15% in personal investments and of course a lot of learning in terms of what not to do.
The reason, I think I never gave up was because I was already in love with investing and reading and so was not very disappointed by the losses. By the way, I had still done better than the market averages. Why is that important? I will come to it by the end of my investment journey.
I had got an expensive lesson for being greedy and for ignoring valuations. However I never letup on my learning. I was actually enjoying the process and knew by then that I was fairly passionate about it (money or not). Access to information through the Internet made the learning process easier too.
I started re-analyzing my portfolio and identifying my mistakes. Overall, I think I did not have too many. I started analyzing stocks and picked up a few companies
Trading v/s Value investing mindset
It must be quite apparent that I have mental block to trading. I do not look down on trading or consider value-investing superior than any other form of investing. It is just that the mindset required for each of the approaches is very different.
Let me illustrate with an example
I typically invest in stocks, which are undervalued due to some short-term sector issue or due to investor apathy. The near term outlook is generally weak and there is no momentum behind the stock. As a result most of the time the stock drops after I start building a position. This happened almost 70-80% of times I have invested in a stock like Gabriel, sonata software, Ashok Leyland etc;
If I operated with a trader’s mindset, I would first not get into the stock and even if bought the stock a stop loss or similar such approach would cause me to exit the stock.
However a value investing mindset results in an opposite approach. I typically buy a stock, which is selling at 40-50% discount to intrinsic value with a 2-3 year minimum time horizon. So if the market drops or the stock drops for non-fundamental reasons, I re-evaluate the stock to see if my thesis is intact and sometimes increase my holding.
I personally feel that it is difficult to have the two mindsets at the same time (at least for me). It may not be impossible, but is fairly difficult and only a few investors would be great at both approaches (Rakesh jhunjhunwala is one such investor whose name comes to mind).
I had a major mental block to trading in the past. I have started opening my mind to that approach to see if I can incorporate some aspect of trading into my value investing approach. I know for sure that I do not have the temperament of a trader and frankly would not be going down that path.
I think it is important for every investor to figure out his temperament as that has a major impact on every aspect of investing. I think trading is inherently more difficult and time consuming. Very few individuals like Rakesh jhunjhunwala are good at both due to the differing mindsets required
In reality, I doubt anyone can consistently time the market (and there is enough evidence to back it up). True some people can get it right sometimes, but I personally have never tried it, as I know for sure that I will not get it right.
I try not to be too smart in selling. I try to follow buffet’s advice (paraphrased) ‘Buy at such an attractive price, that selling becomes an easy decision’
In the end, my approach is to accept that I don’t know the future of the market and need to manage my emotions (greed at present!!). So a mechanical approach although sub-optimal works well for me.
Let me illustrate with an example
I typically invest in stocks, which are undervalued due to some short-term sector issue or due to investor apathy. The near term outlook is generally weak and there is no momentum behind the stock. As a result most of the time the stock drops after I start building a position. This happened almost 70-80% of times I have invested in a stock like Gabriel, sonata software, Ashok Leyland etc;
If I operated with a trader’s mindset, I would first not get into the stock and even if bought the stock a stop loss or similar such approach would cause me to exit the stock.
However a value investing mindset results in an opposite approach. I typically buy a stock, which is selling at 40-50% discount to intrinsic value with a 2-3 year minimum time horizon. So if the market drops or the stock drops for non-fundamental reasons, I re-evaluate the stock to see if my thesis is intact and sometimes increase my holding.
I personally feel that it is difficult to have the two mindsets at the same time (at least for me). It may not be impossible, but is fairly difficult and only a few investors would be great at both approaches (Rakesh jhunjhunwala is one such investor whose name comes to mind).
I had a major mental block to trading in the past. I have started opening my mind to that approach to see if I can incorporate some aspect of trading into my value investing approach. I know for sure that I do not have the temperament of a trader and frankly would not be going down that path.
I think it is important for every investor to figure out his temperament as that has a major impact on every aspect of investing. I think trading is inherently more difficult and time consuming. Very few individuals like Rakesh jhunjhunwala are good at both due to the differing mindsets required
In reality, I doubt anyone can consistently time the market (and there is enough evidence to back it up). True some people can get it right sometimes, but I personally have never tried it, as I know for sure that I will not get it right.
I try not to be too smart in selling. I try to follow buffet’s advice (paraphrased) ‘Buy at such an attractive price, that selling becomes an easy decision’
In the end, my approach is to accept that I don’t know the future of the market and need to manage my emotions (greed at present!!). So a mechanical approach although sub-optimal works well for me.
Finally, when you look at investing this way, you invest against the crowd, which is difficult, but in the end more profitable
