Buy and hold investing

The idea of buy and hold was popularized in the US by warren buffett, the guru of value investing (and if you have realized, my intellectual guru too).

The idea behind buy and hold has been that one should buy the stocks of the really good companies and hold them for the long term (sometimes over decades) without concerning ourselves with the short term swings in the stock market.

A myth on buy and hold
A few commentators project buy and hold investing as a form of investing requiring no thinking and analysis. All one needs to do is to go ahead and buy an Infosys or a levers or titan at any valuations and just hold onto it. One does not even need to check on the performance of the company, even briefly, on an annual basis.

These commentators point out to investors who made an investment in a levers or Infosys years ago , just sat on their positions and are now comfortably rich. This is survivorship bias. For every levers or Infosys, there is a company which went bust or went nowhere.

Buy and hold is not brainless investing!!

It requires work, even if there is no activity (read – trading). It may sound easy, but it is not. By the way, why should earning a decent amount of money, while sitting on one’s a**, be easy for everyone?

Why are there no such recommendations?
You may wonder, why one cannot find such recommendations from brokers or analysts. Why don’t they indentify such companies and recommend it to investors?

Let me take a personal example. As far back as 2000, inspite of being a novice, I had a decent amount of conviction that asian paints was a good company (as I had worked with them). I invested a decent sum at that point of time in the stock.

Now lets assume you are my client. Let’s say in 2000, I recommend this stock and you pay me a commission.

You come back next year and we have this conversation

You : So Rohit, what should I do with asian paints?
Me : Nothing. The company’s doing well. Just hold on to it. By the way, you will be getting a bill for my recommendation next month
You (thinking) : What ??!! this dude did nothing for me this year and is charging me. I am not coming back

So I assume you get the point why brokers and tipsters cannot make a living by giving out such buy and hold ideas which can make you rich.

Please note that the advisor is still doing work. He or she has to keep analyzing the company and track how it is doing. The only difference is that as long as the company keeps doing well, there is no need to trade the stock.

The unfortunate reality is that most investors believe some activity is needed to make money and on top of that if an advisor is to be paid, he or she should be ‘doing’ something.

Is it relevant now?
I feel like a dinosaur these days, especially when talking to my friends. The holding time spans range from a few months to a year. If I point out to long term stock ideas, the same friends are quick to point out the fantastic returns they have been able to make in the last 6 months on midcaps and microcaps.

Why wait for the long term when one can get instant gratification 🙂

The problem with a short term approach, disconnected from an underlying philosophy, is that it works till the going is good. If the market turns south, then the same investors would lose their shirt and all their undergarments and would start singing the buy and hold tune.

An investing philosophy should be based on fundamentals and not on the current fads of the market.

How to practice buy and hold?
I personally do not believe in going and buying a stock blindly and then holding on to it forever (hoping it will do well). I think one should be able to identify on the basis of a reasonable amount of analysis and experience a list of good, long term ideas.

What should be the characteristics of such companies?

A decent operating history – The company should have been in the business over 10 years with an above average record of performance.

Sustainable competitive advantage – The company should have a strong competitive position in the industry so it can sustain its above average performance in the long run

Decent to attractive industry with minimal change – It is important to avoid industries with a lot of change (ex: telecom) or currently in a decline (example – jute). In addition, commodity type industries are also not a great place to find such ideas, though one cannot rule it out.

The hit by truck test – If the unfortunate happens, can you leave the stock untouched in your account as an asset for your family?

The key is to identify a list of such attractive ideas and invest a small amount of money in it (if the valuation are not too high). Once you do that, you need to start following the company and the industry on a regular basis. In time, over a few years, you will become more and more comfortable with the long term prospects of the company.

The idea is not keep adding money as you become more confident of the long term prospects of the company (long term being more than 5 years). One needs to be patient and should let the opportunity come to you. When the market drops due to some short term concern, it is time to add a meaningful amount of money to some of these ideas.

The above approach is not easy. It requires effort and patience. However if you can build a portfolio of 4-5 such companies, you are set for life.

I have been able to identify a few such companies over the last few years. The notable ones are asian paints, Crisil and maybe a Gujarat gas. These names are not set in stone, but are fairly good ones for me.

I am planning to look at new ideas such as titan, HDFC bank, ITC etc and start following them closely. The next time a market crash happens, I plan to load up on these stocks, as I did on Crisil in 2008.