Why Buy-and-Hold Investing Can Never Work

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RobBennett
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Why Buy-and-Hold Investing Can Never Work

Postby RobBennett » Mon Jan 25, 2010 11:01 am

I've written a Google Knol entitled "Why Buy-and-Hold Investing Can Never Work:"

http://knol.google.com/k/rob-bennett/why-buy-and-hold-investing-can-never/1y5zzbysw7pgd/1

Juicy Excerpt: The Greatest Mistake in the History of Personal Finance took place when the academics jumped to the hasty conclusion that the fact that short-term timing does not work necessarily leads to a conclusion that Buy-and-Hold is the only rational strategy. There is not one possible explanation for why short-term timing does not work. There are two. The explanation adopted by Fama and the other academics was that short-term timing does not work because the market always set prices properly and it is therefore impossible for even the smartest individual investor to do a better job than the market at determining the proper price for stocks. There is an alternate explanation that offers every bit as satisfactory an explanation. It could be that the market does such a poor job of setting prices that there is no way for even the smartest investor to make sense of what the market is going to do. It could be that the reason why short-term timing does not work is not that the market is efficient but because it is wildly inefficient. It could be that stock prices do not reflect a rational collective assessment of the true value of stocks but an almost entirely emotional assessment that signifies just about nothing meaningful about the proper price of the stock market. Irrational markets cannot be timed because irrationality cannot be predicted.

I'd be grateful for any feedback.

Rob

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Re: Why Buy-and-Hold Investing Can Never Work

Postby MossySF » Mon Jan 25, 2010 11:28 am

Buy and Hold sucks.

It just sucks less compared to the alternatives.

DoingHomework
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Re: Why Buy-and-Hold Investing Can Never Work

Postby DoingHomework » Mon Jan 25, 2010 12:54 pm

And it could be both. The market could fluctuate around the proper price with a little bit of randomness. This is how most physical phenomena work. An efficient market determines teh proper price and noise generated by trading behavior is superposed.

And, there is strong evidence that this is the case. The amount of randomness has even been quantified quite accurately. The trouble is that most people can't get their heads around the idea that randomness can be quantified and used to make predictions.

The trouble with any kind of timing is that the extra transactions have a cost so the effectiveness of the timing has to exceed the extra costs. Anyone seriously arguing that timing is a good strategy needs to quantitatively analyze the transaction costs and teh stochastic nature of teh price movements if they are to have any credibility. All authors that I know of who have done so have concluded that short term timing does not work.

I woul dlove to see your analysis and would be happy to provide feedback.

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Re: Why Buy-and-Hold Investing Can Never Work

Postby ekrabs » Mon Jan 25, 2010 1:32 pm

Nice to see you still making your rounds, Rob.

Alex Frakt, the admin of Bogleheads, called him, "The most infamous troll in the history of investing forums on the internet." (Source: http://www.bogleheads.org/forum/viewtop ... 1258859739).

His storied past goes way back to many prominent forums, including Bogleheads, Morningstar, Early retirement, and Motley Fool. Some say he was even instrumental in the creation of Bogleheads, as they split from Morningstar to seek a better refuge against trolls that went unchecked.

The thing is, like any other good troll, Mr. Bennett talks a good game. Years and years of trolling will do that for a man. He's highly informed , and can perhaps out-talk many of us here. But ultimately, like any other good trolls, he is one not because he can not be informative, but rather, because he simply refuses to see any evidence contrary to his position, in any way shape or form. Many have tried. All have failed.

You don't have to believe me of course. Someone else has already done a rather lengthy expose about him. (http://www.retireearlyhomepage.com/bennett.html) Or, you can simply look at his title and ask yourself, "Why would someone write 'Buy-and-Hold Investing can NEVER work'? Doesn't that seem like a rather strong wording, one that could potentially incite controversy?"

I know it seems unruly of me to try to discredit a man on his first post. I just think that perhaps the crowd should be made aware of certain things, especially the mods, and then to decide for yourselves.

RobBennett
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Re: Why Buy-and-Hold Investing Can Never Work

Postby RobBennett » Mon Jan 25, 2010 2:18 pm

"All authors that I know of who have done so have concluded that short term timing does not work. I would love to see your analysis and would be happy to provide feedback."

We are in complete agreement re this point, DoingHomework. I am personally 100 percent convinced that short-term timing does not work.

But how about long-term timing? I have been studying the viability of long-term timing for eight years now. Guess what? It has worked throughout the entire historical record. There is not one exception.

Short-term timing is changing your stock allocation with the expectation of seeing a benefit within a year or two. Long-term timing is changing your stock allocation with the understanding that it may take five years or in some cases 10 years to see a benefit.

Why does long-term timing always work even though short-term timing never works? Short-term price changes are the result of shifts in investor emotion. it is not possible to predict emotional shifts. But long-term price changes are determined by the economic realities. The economic realities are highly predictable. U.S. stocks have been paying an average long-term return of about 6.5 percent real for a long, long time. So long as this remains the case, long-term timing will always work.

The historical data shows that those who follow a Valuation-Informed Indexing approach can realistically expect to be able to retire five years earlier than those who follow a Buy-and-Hold approach.

Rob

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Re: Why Buy-and-Hold Investing Can Never Work

Postby DoingHomework » Mon Jan 25, 2010 2:30 pm

RobBennett wrote:"All authors that I know of who have done so have concluded that short term timing does not work. I would love to see your analysis and would be happy to provide feedback."

We are in complete agreement re this point, DoingHomework. I am personally 100 percent convinced that short-term timing does not work.

But how about long-term timing? I have been studying the viability of long-term timing for eight years now. Guess what? It has worked throughout the entire historical record. There is not one exception.

Short-term timing is changing your stock allocation with the expectation of seeing a benefit within a year or two. Long-term timing is changing your stock allocation with the understanding that it may take five years or in some cases 10 years to see a benefit.

Why does long-term timing always work even though short-term timing never works? Short-term price changes are the result of shifts in investor emotion. it is not possible to predict emotional shifts. But long-term price changes are determined by the economic realities. The economic realities are highly predictable. U.S. stocks have been paying an average long-term return of about 6.5 percent real for a long, long time. So long as this remains the case, long-term timing will always work.

The historical data shows that those who follow a Valuation-Informed Indexing approach can realistically expect to be able to retire five years earlier than those who follow a Buy-and-Hold approach.

Rob


Rob,

Something strange must have happened. Your citations and quantitative information was somehow deleted from yoru post. Could you please repost the numbers and references to support your claims? Thank you in advance.

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Re: Why Buy-and-Hold Investing Can Never Work

Postby RobBennett » Mon Jan 25, 2010 2:33 pm

"Why would someone write 'Buy-and-Hold Investing can NEVER work'? Doesn't that seem like a rather strong wording, one that could potentially incite controversy?"

It certainly has incited a lot of "controversy." You get no argument from me re that one.

But why?

All that you say about the Bogleheads board and the other stuff is so. But, again -- Why?

The Bogleheads board was formed to escape me when a few of the leaders there insisted that I be banned and Morningstar refused to violate their published rules in deference to these people. So they founded an entirely new community to escape my posting. Does this not seem strange to you?

I say it strongly ("Buy-and-Hold Can NEVER Work") because that's how I believe it. If someone told you not to look at the price of a car you were buying, you would think they were nuts, would you not? We all take price into consideration with every single thing we buy except stocks. With stocks, lots of us stay at the same allocation regardless of price. Huh? How come?

If you check the historical record, you will see that there has never been a single time when Buy-and-Hold has worked for the long term. It has always caused huge losses for those who followed it and it has always brought on a crisis in the general economy. What else is there to say?

I believe that the "belief" in Buy-and-Hold is 100 percent emotional. It makes no sense and it has never worked and none of those who "believe" in it are able to make a case in a reasoned and civil way. They do "believe" in a sense. They WANT to believe. So they force themselves to ignore all the evidence showing that ignoring price can never be a good thing. But they do not believe in a deep sense. They do not possess confidence. So they cannot bear to hear other points of view.

This is not a good thing. Effective strategies can withstand challenge. I have been banned at about a dozen places and I have never once put forward a post that was abusive in any way, shape, or form. That reality does not tell us something good about Buy-and-Hold Investing, in my assessment.

When you get the basics wrong, you get it all wrong. If valuations affect long-term returns, the Buy-and-Holders have gotten it all wrong. That's basic logic, like it or not. I don't say it to hurt anyone's feelings. I say it because it is so and people who have invested their retirement money pursuant to this "theory" need to know this. Whether our retirements survive or not matters. We should be discussing these matters in serious ways.

By the way, John Bogle has said that Valuation-Informed Indexing can work. He has not endorsed it. But he certainly did not respond in the manner in which the "leaders" of the Bogleheads board responded when the idea was presented to him. If it's good enough for John Bogle, it should be good enough for a group that calls themselves "Bogleheads," in my view.

Rob

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Re: Why Buy-and-Hold Investing Can Never Work

Postby RobBennett » Mon Jan 25, 2010 2:40 pm

"Your citations and quantitative information was somehow deleted from yoru post. Could you please repost the numbers and references to support your claims? Thank you in advance."

There's a link to the Google Knol up above, DoingHomework. The Knol provides a good background discussion, complete with links to everything you could possibly require for further exploration.

The place to start is a calculator at my web site entitled "The Stock Return Predictor." If you are interested in knowing about statistical work that went into development of the calculator, please go to john Walter Russell's site, http://www.Early-Retirement-Planning-Insights.com.

Nothing that is being said here is new. Yale Professor Robert Shiller published his research showing that valuations affect long-term returns back in 1981. What we need to do today is to publicize what those who follow the literature have known for 30 years now. We need to get the word out to middle-class investors as to what really works so that we can begin to dig ourselves out of this economic crisis.

Rob

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Re: Why Buy-and-Hold Investing Can Never Work

Postby reason58 » Mon Jan 25, 2010 2:56 pm

When you make an absolute statement, such as "buy-and-hold investing can never work" then it is hard to take you seriously. All that one must do is provide a single instance in which the long-term strategy worked and it negates your entire argument.

Now if you would like to say that buy-and-hold is inferior to other investment methods for the lay person then I would be greatly interested in your proposed alternatives. Otherwise this is just a poor troll attempt.

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Re: Why Buy-and-Hold Investing Can Never Work

Postby fantasma » Mon Jan 25, 2010 2:59 pm

RobBennett wrote:"Your citations and quantitative information was somehow deleted from yoru post. Could you please repost the numbers and references to support your claims? Thank you in advance."

There's a link to the Google Knol up above, DoingHomework. The Knol provides a good background discussion, complete with links to everything you could possibly require for further exploration.

The place to start is a calculator at my web site entitled "The Stock Return Predictor." If you are interested in knowing about statistical work that went into development of the calculator, please go to john Walter Russell's site, http://www.Early-Retirement-Planning-Insights.com.

Nothing that is being said here is new. Yale Professor Robert Shiller published his research showing that valuations affect long-term returns back in 1981. What we need to do today is to publicize what those who follow the literature have known for 30 years now. We need to get the word out to middle-class investors as to what really works so that we can begin to dig ourselves out of this economic crisis.
Rob


What is it that really works? There are alot of websites out there what makes yours so special? Please use layman terms. For instance when I am able to invest i am looking at the drip investing plan, why are you for or against it?
Be what you want to attract.

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Re: Why Buy-and-Hold Investing Can Never Work

Postby fantasma » Mon Jan 25, 2010 3:00 pm

reason58 wrote:When you make an absolute statement, such as "buy-and-hold investing can never work" then it is hard to take you seriously. All that one must do is provide a single instance in which the long-term strategy worked and it negates your entire argument.

Now if you would like to say that buy-and-hold is inferior to other investment methods for the lay person then I would be greatly interested in your proposed alternatives. Otherwise this is just a poor troll attempt.



that's what i thought the original post was spam. :roll:
Be what you want to attract.

RobBennett
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Re: Why Buy-and-Hold Investing Can Never Work

Postby RobBennett » Mon Jan 25, 2010 3:12 pm

<i>All that one must do is provide a single instance in which the long-term strategy worked and it negates your entire argument.</i>

There's a calculator at my site ("The Investor's Scenario Surfer") that lets you compare how Buy-and-Hold does with how Valuation-Informed Indexing does through hundreds of possible long-term returns sequences, Reason. Valuation-Informed Indexing leaves the long-term investor ahead (often far ahead) in nine out of 10 of the possible scenarios.

I don't think that means that Buy-and-Hold has "worked" in the other 10 percent of the cases. When a strategy provides good results in only 1 out of 10 possible sequence, it is a high-risk strategy. So even when the numbers are slightly better for Buy-and-Hold, those better numbers come at the cost of taking on far more risk. That's not "working," in my assessment. If I am going to take on huge risks with my retirement money, I want to be compensated for doing so in more than 1 out of 10 sequences. Taking a 1 in 10 bet is gambling in my eyes.

"Now if you would like to say that buy-and-hold is inferior to other investment methods for the lay person then I would be greatly interested in your proposed alternatives. "

I certainly would say that Buy-and-Hold is inferior. My view is that it is the most dangerous strategy out there because it makes those who follow it so emotional.

I recommend Valuation-Informed Indexing. I think that John Bogle is right when he says that investors should aim to "Stay the Course." Where Bogle gets it wrong is in his suggestion that it is possible to Stay the Course without changing your stock allocation when prices change dramatically. I believe that investors should be aiming to stay at roughly the same risk level at all times. That REQUIRES a willingness to change one's stock allocation when valuations change dramatically.

So, for example, someone who determined that a 60 percent stock allocation made sense when stocks were priced reasonably might go with a 30 percent stock allocation when stocks were priced insanely high and a 90 percent stock allocation when stocks were priced insanely low.

One allocation change every 10 years or so will do the trick. There's no need for frequent shifts. But investors hoping to have some realistic chance of long-term success MUST make those occasional allocation shifts. Going with a Buy-and-Hold approach can in some circumstances push back your retirement data by decades. Moreover, if Buy-and-Hold becomes sufficiently popular, it can bring on The Second Great Depression. That's not a good thing for anyone, in my assessment.

Rob

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Re: Why Buy-and-Hold Investing Can Never Work

Postby reason58 » Mon Jan 25, 2010 3:19 pm

So, for example, someone who determined that a 60 percent stock allocation made sense when stocks were priced reasonably might go with a 30 percent stock allocation when stocks were priced insanely high and a 90 percent stock allocation when stocks were priced insanely low.


And just how does one know that stocks are priced "insanely high" or "insanely low"? There is a reason why the majority of all "professionals" cannot beat the market. No one knows what stocks will do in the future. No one.

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Re: Why Buy-and-Hold Investing Can Never Work

Postby RobBennett » Mon Jan 25, 2010 3:34 pm

<i>What is it that really works? There are alot of websites out there what makes yours so special? </i>

That's a wonderful question, Fantasma.

What makes my site special is that I have picked up the ball where John Bogle dropped it back in 1981. You are right that there are hundreds of different viewpoints on investing and it can drive the average person crazy trying to find out what really works. What I love about Bogle is that he provided a solution to all the craziness when he founded Vanguard and endorsed the Buy-and-Hold approach. Buy-and-Hold is a DATA-BASED model. It is NOT opinion. It is not based on subjective impressions. It is based on objective realities, as revealed by the academic research. That makes it special indeed.

When you put forward a data-based model, you take on an obligation to CHANGE your model when you learn new things from the data. This is where Bogle and all the others who advocate Buy-and-Hold have let us down in a big way. The intellectual framework for the entire Buy-and-Hold Model is something called "The Efficient Market Theory." The EMT was state-of-the-art thinking when Bogle founded Vanguard. But the EMT was discredited by Yale Professor Robert Shiller's research in 1981. A mountain of research has been published since 1981 showing that Shiller was right and that Bogle and the others advocating Buy-and-Hold Model were wrong.

The problem is that, once the science of investing got in the hands of The Stock Selling Industry, money considerations came into play. Buy-and-Hold has brought hundreds of millions of profits into The Stock Selling Industry. Those who have gotten rich from this idea are loathe to acknowledge that for three decades now those who follow the literature have known that it was pure nonsense. We are now in a difficult transition period where we know that Buy-and-Hold can never work but lots of people still think it is "rude" to say this publicly.

What I do at my site is to take all of the wonderful insights that Bogle and the other Buy-and-Holders developed for us (and there is indeed lots of wonderful stuff with their names on it) and revise it to reflect what the academic research has been telling us for 30 years now. When you do that, you have an up-to-date objective approach. Valuation-Informed Indexing is what Buy-and-Hold would be today had those who developed the idea corrected the errors in their first-draft approach when they first learned of them.

"Please use layman terms. For instance when I am able to invest i am looking at the drip investing plan, why are you for or against it?"

So long as you take valuations into account, this should be fine.

No strategy will work if you fail to take valuations into account. You should never buy ANYTHING without taking the price you are paying for that thing into account, in my view.

The data shows that stocks offered a poor long-term value proposition for the entire time-period from 1996 through 2008. It's essential that all investors know this sort of thing before putting their money down.

I'll give an example. Treasury Inflation-Protected Securities (TIPS) were paying a 10-year return of 4 percent real in 2000. Stocks were likely to pay a 10-year return of about a negative 1 percent per year at the prices that applied at that time, according to the historical data. So the differential was 5 percentage points per year. An investor with $100,000 in his portfolio was likely to end up $50,000 behind at the end of 10 years because of a decision to follow the advice of the "experts" that he adhere to a Buy-and-Hold approach.

I believe that we all should invest our money where it is likely to give the highest return at the lowest risk. There are some valuation levels at which stocks are best for the long run. There are others where stocks are the worst possible choice for the long run. For middle-class investors to learn how to invest effectively, we need to let people gain access to the information they need to understand to make sensible choices.

Again, I see no possible downside. We all end up richer. We all end up being able to retire years sooner. And we all avoid these economic crisis that cause such damage to our political system. There's a reason why we have a longstanding belief in Free Speech in the United States. It is by listening to minority viewpoints that we become aware of the weaknesses in our own beliefs and thereby become able to make mid-course corrections. We all (including the "experts") need to remain open to learning experiences re our investing beliefs, in my view.

Rob

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Re: Why Buy-and-Hold Investing Can Never Work

Postby RobBennett » Mon Jan 25, 2010 3:44 pm

"And just how does one know that stocks are priced "insanely high" or "insanely low"? "

How do you determine whether anything else you buy is overpriced, Reason?

You look at the price no?

If you like a car that has a fair value of $25,000 and the dealer is asking $75,000, you walk away, no? Stocks were selling at three times their fair value in January 2000. That's why purchases of stocks made at that time have proven to offer such a horrible long-term value proposition. If you pay three time fair value, you cannot reasonably expect to see a positive return on your money, can you?

"There is a reason why the majority of all "professionals" cannot beat the market. No one knows what stocks will do in the future. No one.""

No. You are here just repeating the Buy-and-Hold marketing slogans, Reason. There is zero evidence that there is any difficulty in predicting long-term stock returns. We have data going back to 1870. For 140 years now, stocks have always offered a good long-term value proposition when purchased at reasonable prices and a horrible long-term value proposition when purchased at insanely high prices. There is not one exception in the record. It is not even possible for the rational human mind to imagine how there ever could be one. Price MUST affect the long-term return. it's a logical impossibility that this would ever not be so.

You are right that there are fund managers who invest heavily in stocks at times when they are insanely overpriced. That's how money is taken from the hands of middle-class investors and put into the hands of the "experts" in The Stock Selling Industry.

Used car dealers say that it is always a good idea to buy a used car. Does that impress you?

it doesn't impress me. When I want to check whether a line being used by a used car dealer makes sense, I check with an independent source. When I heard this Buy-and-Hold stuff from those in the Stock Selling Industry, I checked whether it stood up to scrutiny. It does not. It's dangerous stuff for the long-term investor.

Rob


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