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Friends Don't Let Friends Buy and Hold

We came across this article the other day...The points it makes are as valid today as they were when the article was written. When stock indexes are stuck in a narrow trading range we don't know if they'll break out to the upside or to the downside. We do know that they'll eventually break out in one direction or the other, but we don't know when. We will be ready to adjust our holdings when prices do break out, by adding to positions if prices break to the upside or by exchanging our positions for money market holdings if prices break down. Will you be ready to adjust your holdings?

Friends Don't Let Friends Buy and Hold

Reprinted with the Author's Permission
By Tim Chapman - August 14, 2002

I recently had an interesting conversation with a longtime "Manage It For Me" client. He was appreciative that we've been able to protect his retirement account and produce a positive return over the past three years, but he almost felt guilty mentioning it to friends who've lost 50% or more of their money. He had a great line when he said, "I know that friends shouldn't let friends buy-and-hold, and I want to tell them there is a better way. But now that the damage is done, is it too late to help them?"

I told him we have this conversation several times a week with prospective clients who feel trapped in their investments. While it is true that if we are at the bottom, and if the positions they are holding are future winners, then they have a chance to recover faster by hanging on. But those are some pretty big "ifs". Here are some thoughts your friends should consider.

They must accept the fact that they've lost money.

We've written many times about bear market "traps" that keep investors fully invested all the way down. These traps are all based on emotion - not fact. To break out of this trap, the first step is to come to grips with the fact you've lost money, the past is the past, and the only thing that matters is the future. Don't get caught in the "breakeven" game. Instead, focus on the money you have left and how you can reach your financial goals.

Is the worst is over yet?

We've heard this line more times than we can count over the past 29 months. There are two FACTS you can count on: The market will not go down forever; but NO ONE knows when it has hit bottom until well after the fact. Consider what happened last fall. There was an emotional sell-off after the 9/11 attacks that produced a new low on September 21. From that point, the Nasdaq gained 40% through year-end, and the consensus opinion was "the worst was over" and good times lay ahead. But once again they were wrong, and today the market is lower than it was on September 21.

It always makes sense to avoid losing money.

It seems irrational for someone to say, "I've lost most of my money, but I'm comfortable losing some more". But that is exactly what many investors are saying, not with their words but with their actions. They're so caught up in the "If I sell now I'll take a loss" syndrome, that they completely lose sight of the fact they might well lose more, and they don't understand how difficult it is to recover losses. For example, buy-and-hold investors must gain 14% just to get back to the September 21 "low".

How can you be sure your LOSERS will be WINNERS when the market turns around?

Have you ever heard of Solitron Devices, Syntex, Teledyne, National Video, and Dome Petroleum? They were considered "go-go" stocks in 1968, the Amazon and Yahoo's of that era, but they didn't shine so bright after the 1973-74 bear market. There is absolutely no guarantee that the tech darlings of the recent bubble will ever come back to their post-2000 glory. Many have already folded the tent and many more will follow. When the market does start going up it is important to have aÊ way to identify leaders, to make sure your money is as productive as possible. That is exactly what our "Hands On" fund rankings are designed to do.

Stocks are not always good in the long-term

As noted economist John Maynard Keynes said, "In the long-term we're all dead", so it is necessary to define long-term in the context of the market. A couple of years ago, many advisers told clients that if they had a 3-5 year time horizon they were "long-term investors" and should buy stocks because stocks were always good in the long-term. Too many clients have learned the painful truth that stocks are NOT always good in the long-term. Consider the Dow Jones Industrial Average from 1966 to 1982 a "long-term" sixteen year period.Ê Over that time frame the stock market provided a return of exactly ZERO. Actually it was a repeating sequence of good years followed by bad years, with the net result being zero. How many investors are prepared to ride a financial roller coaster for 16 years and have nothing to show for it?

Our philosophy works in all types of market conditions.

We constantly tell people that there is no such thing as a perfect investment strategy. We certainly do not believe that our "Hands On" or "Manage It For Me" approach is perfect but it does allow our clients to do okay in all types of market conditions. When the market is going up in a meaningful way, we identify good funds and participate as much as possible. When the market risk is too high, or the trend is down, we protect against major losses. If the long-term trend is sideways we can capture some gains when they come along and then hang onto them during the bad times. Our goal is not to "beat the market". We just want to make sure our clients get a reasonable, decent return over time, and have an investment strategy they can live with.