Buy and Hold Definition
Buy and hold is a high risk passive investment strategy in which an investor buys stocks with the intent to hold them for a long period of time, regardless of fluctuations in the market or loss of value. An investor who employs a buy-and-hold strategy may actively select stocks, but once in a position, is not concerned with price direction or loss of value. Some passive “buy and hold” investors invest in passive index funds using an arbitrary asset allocation among them. Buy and hold assumes the view that in the long run financial markets give a good rate of return despite periods of volatility or loss of value. This viewpoint also holds that short term market timing i.e. the concept that one can buy the lows and sell on the highs, does not work for small, or unsophisticated, investors so it is better to simply buy and hold. Therefore, most buy and hold investors are likely those who are, or consider themselves, uninformed and unsophisticated.
One of the most popular arguments for the buy and hold strategy is the disproven academic theory called efficient market hypothesis (EMH): EMH assumes that every security fairly valued at all times and there are no price trends, so there is no point in making tactical asset allocation decisions. Some take the buy and hold strategy to an extreme, advocating that you should never sell a security unless you need the money. Ironically, Momentum is one of the anomalies disproving the efficient market hypothesis which involves buying securities that are rising and selling securities that are falling. Efficient market hypothesis believes that trends don’t even exist, so its promoters are blind to the long periods of directional drift and are unaware there is anything to exploit or avoid.
Buy and hold lacks risk control, so the potential for the possibility of loss is unlimited. Buy and hold investors may use broad diversification in attempt to manage the selection risk of individual securities, but they make no effort actively manage, direct, or control the losses from an overall market decline. Buy and hold can be a high risk investment strategy in declining markets. For example, in the decade from 2000 – 2010 the S&P 500 stock index has declined more than -50% during two different bear markets. From 1928 to 2010 the stock index has declined -20% or more 25 times. When it has declined -20%, the average decline was -37% and took an average of 299 days to recover. Buy and hold investors may argue that it did eventually recover, but they ignore that many investors don’t have the risk tolerance or risk capacity to hold through long periods with large losses in value. In fact, we believe much of the cause for the panic selling that occurs near the lows of a waterfall bear market is buy and hold investors whose losses have gotten larger than they expected or can afford.
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