Buy-and-Hold is very popular today. It’s so popular that, if you challenge the Buy-and-Hold dogmas on an internet discussion board, you are going to be pressured into silence. If you refuse to be silenced, you will be banned. I know.
Q1 2021 hedge fund letters, conferences and more
The Popularity Of Buy-and-Hold
Why is Buy-and-Hold so popular? It’s popular because it is dangerous. Yes, that sounds counter-intuitive. But today’s CAPE value is in the mid-30s. That’s higher than the CAPE value that brought on the Great Depression. Stocks are very dangerous. The thing that makes them dangerous is the same thing that makes them popular. Price levels are far above those that would be supported by the economic realities. Investors love seeing all that irrational exuberance show up on their portfolio statement. It’s recent history that matters most to investors, not the 150 years of stock performance that show that going with a high stock allocation when stocks are priced as they are today is a dubious proposition.
Buy-and-Hold will not always be so popular. Buy-and-Holders like to plant suggestions that they will stick with their high stock allocations even if prices drop hard. But that cannot be. If most stock investors stuck with their high stock allocations despite what was going on in the market, we could never see CAPE values below the fair-value CAPE value of 16. The same emotional perspective that thrills investors when stocks are priced as they are today terrifies them when prices begin their descent to fair-value levels. That sense of panic has brought the CAPE value all the way down to 8 at the end of earlier bear markets.
This phenomenon -- that Buy-and-Hold is most popular when it is most dangerous -- makes it difficult to assess the performance of the strategy. Few investors are shy about acknowledging that they follow a Buy-and-Hold strategy today. It makes them feel smart to say that they have been following the strategy that pushed stock prices up to one of the highest levels ever achieved. Not so many will acknowledge following the strategy when prices have fallen hard. Investors are much more inclined to brag about their successes than to bemoan their mistakes. When the flaws of Buy-and-Hold become evident to all, few will own up to once having followed the strategy.
Obtaining The Average Long-Term Stock Return
Buy-and-Holders like to claim that staying at the same stock allocation at all times ensures that they will obtain the average long-term stock return of 6.5 percent real. But the goal of staying at the same stock allocation at all times is an aspiration rarely realized. Most Buy-and-Holders have been able to stick with their high allocations from 1996 forward, a long stretch of time during which super high price levels have been the rule (with the exception of a few months in the wake of the 2008 economic crisis). But, if the bull market ends (and it must eventually, if the market is to continue to function), there will be a long stretch of time when prices will remain at below-fair-value levels (for a CAPE value of 16 to remain the mean CAPE value, we will have to experience roughly as many years with a CAPE value below 16 as we have experienced with a CAPE value above 16, and we have experienced a lot of years with CAPE value above 16).
So most investors will be lowering their stock allocation at precisely the worst time for doing so. Which means that they will not enjoy that average stock return of 6.5 percent real as their personal long-term return. I have never seen hard numbers showing what lifetime return most Buy-and-Holders obtain in the real world. It would be great for some researcher to identify that number (he would need to have access to the portfolio numbers for a large number of investors, data that is not nearly as easy to obtain as the overall market return). Those of us who want to be able to make a strong case against the Buy-and-Hold strategy need to quantify the dangers of the strategy to achieve our goals. When not presented with numbers, investors are inclined to go with their gut and the emotional case is always going to be strongly in support of the Buy-and-Hold claims.
Buy-and-Hold became popular in academic circles because the dangers of the strategy are assumed away once one buys into the core premise of investor rationality. If the market really were efficient, as was widely believed to be the case in the days when the strategy was being developed, Buy-and-Hold would be the ideal strategy. The reality, of course, is very, very different than what was assumed to be the case in the days when the Buy-and-Hold strategy was being developed. If investors were rational, today’s CAPE value would not be possible. It is the widespread promotion of the idea that prices don’t matter (that market timing is not required) that makes prices like those that apply today a reality.
Most investors celebrate that reality because all they see are the added dollars that it puts into their portfolio. When those added dollars disappear, Buy-and-Hold become less dangerous and less popular. Stocks are an impossible-to-beat investment class when prices are at less-than-fair-value prices. But few investors want anything to do with stocks at such times. One of life’s many paradoxes!
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