Buy and Hold…Is it the Wisest Choice?

By on August 1, 2006

Originally published in June 1997:

I can think of no other occupation where so little comes from a lot of effort as the jobs on Wall Street. When upwards of 80% of stock mutual funds can’t beat the indexes you start to wonder about all of the wasted human resources devoted to managing these funds. However, without all of the effort placed in trying to outsmart the market, securities would not be efficiently priced. There is no such thing as a perfectly priced security in any stock market in the world, but if everyone relied on index funds, disparities between stock market valuations and true worth would be much more distorted than they are now.

The market looks like it will continue moving up. Market moves like we’re seeing aren’t unprecedented, but my feeling is before this bull is over it will be considered the greatest bull market ever. Some unforeseen event could spoil the party, but the market has a very good chance of continuing its upward bias until the middle of the next decade due to the demographic profile of this country.

Buy and Hold….Is it the Wisest Choice?

Much has been written about the failure of market timers and the triumph of the “buy and hold” crowd. The preponderance of experiential evidence paints the perception that buying and holding stocks is the only way to go. But is it really? Just because buying and holding has worked over the last 15 years, does it necessarily mean it will generate acceptable returns in the future? Ask anyone who bought Japanese stocks 10 years ago whether buying and holding stocks works and you’ll get an entirely different response than you will from someone who bought U.S. stocks back in 1987.

The truth of the matter is that no one really knows whether buying and holding stocks will work in the future in any equity market in the world. Stock markets go through very long cycles of underperformance and overperformance. When you smooth out the returns over time, the U.S. market has returned somewhere around 11 percent a year this century. But there have been very long periods when the market has disappointed the majority of investors, especially when you adjust for inflation. Everyone knows that it took a long time for the market to recover back to the peak it reached in 1929. Adjusted for inflation, the market spent more than 20 years getting back to the break even point. In another example, it wasn’t until 1985 that the market got back to the inflation adjusted peak it achieved in 1966! Can you imagine investing a lump sum at 45 years of age, expecting 15 percent returns until retirement and ending up with the same amount of buying power you started with?!? It is definitely not unprecedented and will probably occur again in the future. After 15 years of subpar, if any, returns, the experts will certainly not be extolling the virtues of buying and holding stocks. Of course, very few investors will put all of their money in stocks at the exact peak of the market. The vast majority will do some sort of dollar cost averaging which, if they stick to it, will most likely provide positive returns since they will be buying after the market falls, and during its long recovery phase. The main challenge for investors is to find a strategy they are comfortable with and stick to it through good times and bad.

In conclusion, buying and holding as a strategy has merit as long as you don’t do all of your buying near the peak of a secular bull market. Buying and holding on a dollar cost average basis should work since you’ll be buying during weak markets, as well as strong.

Portfolio Updates

Coachmen Industries Inc. (NYSE: COA; 17) recently authorized the repurchase of up to one million shares of its outstanding common stock. Coachmen has shown weak relative strength due to high interest rates. Rates have a good chance of coming down in the coming months. This, coupled with the buyback will likely boost COAs share price significantly before the end of this year.

On May 27, Goldman Sachs upgraded Clayton Homes Inc. (NYSE: CMH; 15 1/8) to market outperform from market perform.

At the tournaments played on the six major tours over a recent weekend, 504 of the 615 professionals who were using titanium drivers used either a Great Big Bertha(R) Titanium Driver or the Biggest Big Bertha(TM) Titanium Driver made by Callaway Golf Company (NYSE: ELY; 32 3/8). That means 82% of the titanium drivers in play were produced by Callaway Golf. The sport of golf has a great future and Callaway is one of the best pure plays in the industry.

LSI Logic Corp. (NYSE: LSI; 42) recently unveiled a computer chip that will make digital cameras easier and cheaper to manufacture. Minolta Co., one of Japan’s biggest camera makers, also announced that it will use the chip in new digital cameras. One of the $35 chips from LSI will replace about five separate chips currently used to make one digital camera, said Moshe Gavrielov, LSI executive vice president. “This chip is really going to enable digital cameras to compete head-on with film cameras,” Gavrielov said. “If LSI gets market-share percentages in the teens, it would mean tens of millions of dollars in revenue,” Gavrielov added. “In 1998 the digital camera has the potential of being a very big hit,” said Shekhar Wadekar, semiconductor analyst at Raymond James & Associates. LSI said it plans to ship a small number of chips this year so camera makers can have products on store shelves for Christmas. The company will use a new plant in Oregon to produce more chips in 1998. LSI is a diversified manufacturer of computer chips for the video game, cable set top box, and DVD industries, among others. This company has an extremely bright future as society moves towards more improved and voluminous electronic gadgetry and solutions.

Royal Caribbean Cruises Ltd. (NYSE: RCL; 34 7/8) said it has booked over 90 percent of its capacity for all of 1997 and is now taking more reservations for 1998 than for 1997. Chief Financial Officer Richard Glasier said the company’s capacity is fuller now for 1997 than it was at this point for 1996. The company is promoting its new cruise ship, Rhapsody of the Seas, a 78,000 ton vessel that is part of a $4 billion expansion program to be completed in the fall of 2000. “It’s normally in the June time period that the lines cross and we start getting more reservations for the next year over the current year,” Glasier said. “It’s early May and the lines have crossed. That tells us 1998 is looking quite good.” Royal Caribbean invited industry analysts and investors on board Rhapsody of the Seas as it docked in New York Monday to hear Glasier and chief executive Richard Fain talk about these outlooks. They said passenger capacity is expected to grow by 20 percent in 1997, 16 percent in 1998 and 13 percent per year through 2000. The demographics powering the cruise industry should propel this stock to much higher levels in the coming years.

Recommended Allocations

Aggressive portfolios: 90% equities, 10% cash.

Conservative portfolios: 70% equities, 30% cash.

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