“Buy and hold” investing strategy probably does not work so well for most investors and traders in the past 15 years. From our analysis of the S&P500 performance from end of 1997 to 2008, an investor will make -7% (yes… that is Negative 7%) return using buy-and-hold strategy compared to about 660% return (excluding dividends) or almost 20% annual return for those who trade major market trends.
As mentioned earlier, if you are to buy S&P 500 index or its equivalent on 31 Dec 1997 when the index is at about 970 and hold it till 31 Dec 2008, when the index is at about 903, your return will be a rather horrendous -7%!
However, assuming if you are to carry out the following trades during this period, $10,000 invested in S&P 500 will turn into $66,350, multiplying your money more than 6.6 times or equivalent to 18.8% per annum! Instead of having your $10,000 become $9,400 by just employing “buy-and-hold” strategy, you will have your $10,000 turn into $66,350, thanks to the effects of compounding! Of course, we do not expect you to be able to time the top and bottom so accurately, but if you master value trend trading, you will definitely perform better than just holding to your S&P 500 in this case.
You might think 18.8% is not much but if you include dividends of say 1.2% on conservative basis as you will not get dividends when you short the index, you are looking at 20% return per annum. If you compound $66,350 at 20% for another 20 years, your money will grow to $2,543,700! Yes, it is more than $2.5 million from initial capital of only $10,000! That is 250 times your initial capital! A record that even Warren Buffet will be proud of as his track record stands at about 21% to 24% per annum, depending on which year you measure his record.
If you are more enterprising investor, you can achieve higher returns by picking stocks that perform best in the index or sector. However, we caution being too greedy and taking too much risks. As you can see from the example with S&P 500 above, if you can achieve an average of 20% return per year, you will make a lot of money with time. You do not need to make 100% every year which is impossible for almost anyone to achieve consistently else that person will be richer than not only close to 10 times richer than the richest man on earth as he would be worth $335 billion with only initial capital of $10,000.
Contrary to popular belief, Warren Buffet does not buy and hold many of his investments. In fact, Buffet is perhaps one of the most sophisticated securities traders in the world, for example he practices arbitrage. The reason he held a large part of his investments for a long time is because he hold huge stakes in these companies that cannot be simply traded in the markets like most of us do.