The Beautiful Proof Of Buy-And-Hold Investing

It’s been a while, hasn’t it?

I’ll do what I can to break out the defibrillators and bring this site back to life, starting with this statistic that caught me by surprise:

“According to analyst Eddy Elfenbein, over the last twenty years, the 24 best days in the stock market accounted for the entire gain in the S&P 500. The other 99.5% of the time has been a net loss.”

Mentally, we are all programmed to think linearly: if you know that healthy American enterprises tend to produce 10% annual returns over the long haul (6.5-7% is in real returns, the other 3.0-3.5% is matching inflation), it can be tempting to imagine the wealth-building process as something that hums along nicely to the tune of 0.8% gains each month. But yet, the reality is that the rapid increases in wealth come in fits and spurts. The investing game may be a marathon, but the gains are produced in sprints resembling the forty-yard dash.

Let’s do some back-of-the-envelope math on that stat: there’s 365 days in a year, 104 of which are weekends. That means the stock market has 261 days to be open per year, which we’ll call 250 to adjust for federal holidays. Over 20 years, we’re looking at about 5,000 trading days for the stock market. And from 1993 to 2013, the S&P 500 (SPY) produced returns of just a hare under 9% (about 8.93% depending on the start and end dates plugged into the calculator). In short, those 9% returns came from 0.0048% of trading days. It sounds insane that essentially a little over one day per year over the past two decades is responsible for the bulk of wealth building in America, until you look at the specifics and see: 11.08% gains on October 13th, 2008, and 10.88% on October 28th, 2008. What you’d expect to make in a little over two years, you got just by being invested on two days in October.

Of course, even though paper wealth gets built in this fashion,that does not mean that corporate earnings growth shares this spurty characteristic (particularly among blue-chip stocks). There is a reason why the predominant theme of this site is about focusing on the profits and dividends generated by companies, rather than stock prices of those companies. Dividends and corporate earnings among non-cyclical stocks generally flow upward in most years; daily stock market quotations offer no such promises—The New York Stock Exchange is little more than an uppity Craigslist.

Johnson & Johnson is one of my favorite case studies that illustrates this point. From 2004 to 2013, the price of Johnson & Johnson’s stock seemed to move little: you could have purchased shares for $64 in 2004, and you could have purchased them for $70 in 2013. Other than the dividend, you were looking at a return of about 10% cumulatively over that time frame. But here’s the thing: the business performance was much better. The $3.10 in 2004 profits grew to $5.52 by the end of 2013. From 2004 to 2013, Johnson & Johnson grew its profits by 78%, but the stock price appreciation didn’t even hit 10% over that time frame. Investors got some shelter from the storm by collecting a dividend that grew from $1.10 in 2004 to $2.64 by 2013, gradually rewarding long-term investors at a time when the price of the stock did not rise along with business performance.

Yet, it was the bridge from 2013 through 2014 that gave Johnson & Johnson investors recognition for ten years worth of business growth: the price rose from $70 in 2013 to over $101 at the time of this writing. That 42-43% gain in the past year wasn’t reflecting the fact that Johnson & Johnson’s business grew 42-43% in the past year; instead, investors collectively said, “We should’ve bumped this stock up a long time ago. We’re making up for it now.” In the year 2100, when your heirs are mapping out the history of that $10,000,000 Johnson & Johnson stock grant you bequeathed them, they’re gonna be thinking, “I’m sure glad great-grandmom and great-grandpops didn’t sell out in 2013 because that stock was “dead money.””

When you look at the people who truly made it atop Forbes’ lists, you’ll see they buy businesses that generate lots of money and then never let go. There are a couple exceptions, such as Mark Cuban (who sold his businesses at the top of the dotcom bubble, this giving him a big sack of money going forward that under almost any other circumstance, would have required 20+ years more of growth to achieve). Republican. Democrat. Independent. Male. Female. Black. White. It didn’t matter; buy-and-hold was the common denominator that transcended all trends. Heck, I was even studying Donald Sterling’s business record recently (precisely because no one else in the world was studying the wealth-building side of his early life—I was applying John Stuart Mill’s advice, “You can find specks of truth among those proclaiming false words; if we ignore a person completely, we lose those specks of truth sprinkled amongst the many falsehoods). Even he is sitting on real estate purchased in the 1970s that is spitting out more annual income today than the price he paid to buy it forty years ago.

And again, I’ve only been discussing the numbers side of the equation. There’s a quality of life aspect to this as well. Actively managing money (that is, buying and selling regularly) is time-consuming, hard, and often stressful. What’s the point of being rich if it monopolizes your time and makes you miserable? Money, properly wielded, is supposed to be a tool that eases burdens, not creates new ones. There are a lot of ways to turn $55,000 into $1,000,000. But if you wanted to do it with Coca-Cola, you would have had to write a $55,000 check twenty-five years ago, and then (1) pay your taxes on the dividends, and (2) cash your dividends. Not exactly a cross with splinters to carry in life. Plus, you’d be collecting $29,800 each year just for staying alive (you’d be making $81 per day, about as much as the nighttime manager of a hotel chain, just for waking up in the morning).

This is where it is useful to follow Warren Buffett’s lead. When you look at his life, it’s generally an exercise in laying intelligent infrastructure. He puts into perpetual motion these business ownerships that keep giving him more and more money to make new investments, and then he can take that fresh cash and do the same thing. Getting the business right, and holding on, is where your energy should be devoted. Who cares if you pay $70, $75, or $85 for Procter & Gamble stock? The point is, you got the company right, and things will take care of themselves if you give yourself enough time. It’s a much more sane way to behave than trying to capture 24 days out of 5,000.


Originally posted 2014-05-16 19:36:55.

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4 thoughts on “The Beautiful Proof Of Buy-And-Hold Investing

  1. EricRasbold says:

    Well said. And good to see you back. I am watching one of my principal holdings down almost 30 percent in the last three trading days – DAMN, that is hard to hold onto. The fundamentals are good and the dividend is stable, but the trading monkeys are on it like a jimmie hat. I bought more.

    This is discipline…steady as she goes.

    May Your Dow Never Jones.

  2. AssetGrinder says:

    Ya many say the market is overvalued right now but if you are a long hold investor the entry point matters less and less. Also when a crash happens you just acquire more of the same stock

  3. ddh81 says:

    Brilliant post. Was recently having a discussion with a good friend of mine regarding exactly what you said on JNJ. Although it went nowhere in price for a lengthy period of time, that in itself did not mean someone made a bad investment years ago.

  4. Forthelonghaul says:

    Fantastic as always, and also, welcome back! If you don’t already read, he has an article today that i think will resonate with you entitled “why a 66% crash would be better than a 200% melt-up”. It’s stunning!

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