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Monday, April 19, 2010

BUY AND HOLD, HOLD AND HOPE


The next in this series of reviewing trading styles is the age old adage of buy and hold. This of course is the running theme of the brokerage and money management business in the US. "You want to be a long term investor." Stocks have far out performed other asset classes so "you should just buy good solid companies and over time they will outperform." These are amongst the comments made by people who push this approach.

There are some merits on certain levels to some of these comments. Warren Buffet and all of his incredible success can hardly be challenged. He is one person. You cannot judge the whole lot by one individual. However, investing in solid long term companies, the brick and mortar so to speak, does have it's merits. If you have the foresight to know when all of these dips are coming and can buy only on the weakness, then just hold them indefinitely, you could have some success. Here is the problem with all of this. As you can see from the chart above which is a monthly SP 500 chart, since the early 80's we have had some incredible price swings. Very few individuals have the fortitude to buy into these types of declines, and even for short term timers like me, getting the lows is very difficult if not impossible to do regularly.

Due to this, most people do not buy only on these dips. If you do not your average price may not be so good with this type of approach. If it is not then you can find yourself 20 years into an investment, without much of a gain. There are dividends that can be factored in which do enhance returns. However, during periods of extreme stress, often those are suspended. When that happens it can dramatically effect the bottom line of your portfolio. If the time comes around when you need your money when one of these dips is happening, your whole life could be ruined. We certainly saw some of this the last 2 years.

The other thing that can obviously happen is the GM scenario. There are not many people who would have advised you 20 years ago to stay away from all the auto makers. I personally would not have even though I hate unions and grew up watching them support bad workers with low productivity. Yet had you had GM as a stalwart of your portfolio, that portion of it would have been wiped out. The problem with using indices like the DOW for example in computing historic returns, is that it's composition is always changing. Companies come and go from that average, and the values going back cannot always be refigured because some of the new additions did not exist 50 or 100 years ago. Due to this some of the %'s used in comparing stocks to other asset classes are not really accurate and can be very misleading.

One of the best ways to buy and hold is an approach based on some basic market timing techniques combined with buying value stocks at those times. For the most part, buy in the fall, Mid Oct or thereabouts, and pick 5 to 10 undervalued "blue chips" and hold them until May of the next year. At that point you sell them and buy a new group in October. This is a modified buy and hold approach, which can far out perform the basic approach. I did trade this way for a period of time with about 100k just screwing around, and did have some good success. However, the returns which were often in the high teens, were just to low for my taste.

I would rather miss a move, than sit through a wipeout like we saw in 2007. The truth be told, I got my Dad who is 82 and could not afford to lose any money, completely into cash in all his retirement accounts when the DOW was at 12,832. This saved him from having his life literally ruined and being a dependent on me. In summary here, the Buy and Hold approach I really think is fraught with danger. It can produce good returns over time, but is a very dangerous way to trade, not a safe way. Alot of people make excuses about being too busy etc to bother with their investments. Make the time! I am too busy to listen to you complain when you lose all your money because you "were too busy."

Employ some basic timing techniques to this theory and I think you will be pleased with how you can enhance your returns pretty nicely.

5 comments:

Thomas Adair said...

Real traders are taught that the Holy Grail to Investing doesn't exist. Real people were taught that all the planet's move about the earth, don't go to far out into the ocean(you'll fall off the earth), on and on..........

When one looks outside the box(inventor), goes against the group(thinks for self), said they found(developed) something that is supposed to be impossible(airplanes), they were once killed. Now these people are called bad names and delegated to be unheard, and ignored group.

The ultimate business solution. The ability to cut the cost of any business expense, or just plain invest.

I developed multiple arbitrages that enable me to trade(not invest) in the financial markets, without risk(The Holy Grail to Investing), or arbitrage that anyone can do. Over 30% a year.

Thomas Adair
thomasadair@live.com

Chris Johnston said...

First of all, this is a short term trading blog, so I am not sure what your intent is with these comments. If you want to badger me I will just cut off all your comments, that is certainly easy enough to do.

However, I do not like to operate like that. You obviously are one of the worlds great traders as there are very few people alive who are doing what you claim in the way you are doing it. There are also several gravestones of those who thought they had no risk in their arbitrage programs.

There is risk to any way of investing and to represent otherwise is not only dishonest, but illegal.

I am a real trader who has much higher returns than yours, in fact I am already well beyond those returns this year alone. I am a real trader who trades real money, who often posts his exact trades the day before he does them. You are just a voice out of the blue.

If you are real and are truly as good as you say, then you could be a very good contributer in here and I hope that is what happens. However, to claim there is no risk is not only untrue, but dangerous if you really believe that and trade that way.

Maybe you have figured something out nobody else ever has, and if so I congratule you. Do you have somewhere where we can see something documented as to these returns?

Chris Johnston said...

Here is one prime example of an arbitrage type strategy where the main player thought he had no risk,

AIG

The way the trades were constructed, they had assumed a zero risk level of a failure of any of them. As a result, when one did, there was no money in reserve and the house of cards came down.

The man running the whole derivatives operation had admitted that at the core of the whole strategy was an assumed risk of no failures.

jg said...

I got lucky on my R2000 short bet and saw a nice gain this morning as the market fell. My wife is aggressive about protecting our winnings, and covered near the bottom this morning.

Man, dummies or the PPT sure did move the market back up in the afternoon.

We are now locked and loaded, ready to short again.

When do you plan to dip your toe in the 'short an index' water again, Chris?

Anonymous said...

Chris,

There are two situations that would make the arbitrages I developed fail.

One, the Federal Gov't goes bankrupt, thus making that dollar basically worthless.

Two, a collapse of the financial industry, thus taking a part of the arbitrage away. Then the arbitrage turns into an investment with risk.

As for being illegal, I'm out of the brokerage and hedge fund business, so I can say risk-free.

As for being dishonest, just the opposite.

There are a lot of people that make more than 30% a year. The only problem with my development is that it is limited to the percentage, for reasons I can't go into.

I produce about 1% every 10 days, and I consider that short term.

I do have to admit, you are one of the few that hasn't banned me from expressing my knowledge.

Just to let you know, I am not selling the arbitrage, but in the process of starting a business with such. I am looking for a partner to implement the business model, and not looking for money.

Athenapro.com is in the development stage. Open for preview, but contact and some other operations don't work at this time.

Contact me at my email address, and I'll send my phone contact.

Thomas