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Is the Buy and Hold Strategy Dead?

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SmartMoney.com [4]¬†recently issued a short video entitled, “Why ‘Buy & Hold’ Strategy No Longer Works”.

I am a proponent of the “buy and hold, but rebalance” approach, but thought it useful to provide a differing view. Not one I agree with, but it is always good to show all sides of a topic and let readers reach their own conclusions.

The video and my commentary are below. 

I Still Like Buy and Hold

First, let me reiterate that I like the buy and hold strategy [5] for diversified assets. Primarily mutual and exchange traded funds (ETFs).

Especially important is to maintain a well-diversified asset mix. One that incorporates assets of differing correlations [6], so that as one asset class suffers another is there to prosper.

Buy and hold can be used for non-diversified investments, such as individual stocks, but it is much trickier. I do not think that investors should plan on owning individual stocks forever (even with periodic reviews and rebalancing). The world changes too quickly to ensure that one company will dominate for your investment time horizon of possibly 40 to 60 years.

With a built-in diversified investment, changes occur organically within the asset. You do not need to monitor and make decisions yourself. As the next Apple comes along, upon reaching certain characteristics (market capitalization, revenue, etc.) it will be added to the appropriate indices. And it will replace a company whose fortunes (as measured by the index criteria) are declining.

There Are Legitimate Buy and Hold Concerns

The video makes a few good points. Some I have previously addressed in Legitimate Buy and Hold Concerns [7].

Tactical Asset Allocation

As for the use of tactical asset allocation as a superior strategy to buy and hold, there is some merit in the argument. I like tactical asset allocation and employ it myself to some extent. More in broad strokes than in jumping in and out like a day trader though.

But there are two problems in tactically shifting allocations as you try to anticipate shifts in markets or market segments and exploit them.

One, it is exceedingly difficult to time market movements. This is mentioned in the video. It is questionable as to whether actively managed portfolios can outperform passive investments [8]. So while it may be well and good to state that tactical asset shifts during volatile markets is a better strategy than sitting tight, the ability to successfully implement it is doubtful.

Two, unless you have the time and technical expertise to assess potential market trends you will need to pay someone to advise you. This may be through an advisory service where you make the final decisions or it may be where you hand over the decision-making to an investment professional (e.g., actively managed investment fund, discretionary investment account, etc.). This costs money and further erodes any portfolio returns.

For these main reasons that is why I believe a buy and hold, but rebalance approach is best for most individual investors.

Mutual Versus Exchange Traded Funds

The video makes a good point on differentiating between mutual funds and ETFs. That you can buy and sell ETFs throughout the trading day, whereas most mutual funds can only be traded at day’s end.

So if there is a major market crash, you may be able to sell your ETF during the day, losing less than if you had to wait until the close of business to determine your selling price.

This may be important if you intend to be an active trader, much less so if you take a buy and hold approach.

I should also note that not all mutual funds allow for purchases or redemptions on a daily basis. While no longer common, there are still funds that may only allow for transactions weekly, monthly, etc. Before investing any capital into a fund, be certain to read the prospectus and know exactly what you are acquiring.

Company Pension Plans

As pointed out in the video, often the investment choices in company pension plans are limited.

When investing, always take a holistic approach to your assets.

Take advantage of what is offered by the company.

But that may not be your only investment route. If there are asset classes you wish to invest in that are not offered in your corporate plan, consider investing in these classes outside your pension scheme.

The goal is to arrive at a target asset allocation that meets your needs. If that can be achieved entirely in your company pension plan, great. But more likely, you will need at least one other investment account to hold other bankable assets.

Do not forget to include your non-bankable assets in your asset allocation. Your home, lake cabin, stamp or coin collection, etc. These are assets (and unique asset classes) and must be included in your asset mix.

Portfolio Protection

Protecting one’s portfolio is very important.

If you can successfully time market movements, shifting assets between classes may work well. Or it may not.

I prefer ensuring that investors maintain a well-diversified portfolio that combines assets with different correlations [9]. As one asset class increases in value, another with a negative correlation to the first will decrease. This means that your portfolio will never participate fully in the upside of a bull market in one class. But it also means that you will have some protection against bear markets in specific classes.

Enjoy the video.