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JASON ZWEIG of The Wall Street Journal recently proclaimed the importance of courage when investing. Courage is indeed an essential quality, especially when mustering the resolve to buy stocks when there’s “blood in the streets,” as is the case quite literally today.
Yet I would argue that the greatest investment virtue—and the one that’s currently most lacking—is patience.
According to Morningstar’s Michael Laske, the average turnover ratio for U.S. stock funds is 63%. The turnover ratio for U.S. pension funds is similar, estimated to be 70%. The latter would imply an average holding period of just 17 months. That’s nuts. Do we really believe that a thoughtfully constructed portfolio should be remade every year and a half? Think of the excess fees incurred from so much turnover and the tax burden for those trading in taxable accounts.
Warren Buffett says his favorite holding period is forever. That may be slight hyperbole, but it’s not far from the truth. Studies have shown that investors err badly when selling stocks and would be better off doing nothing.
Nowhere is the importance of patience more evident than in asset allocation decisions. The past decade hasn’t been kind to value investors, nor to investors with sizable international holdings. The patience of emerging market investors is wearing very thin. It’s one thing to say you’re a believer in mean reversion and long-term investing, but it’s quite another to sit patiently for a decade or longer waiting for your thesis to play out.
It’s been said that the stock market is good at maximizing regret. One of Bob Farrell’s 10 rules of investing is, “The public buys the most at the top and the least at the bottom.” Here’s my corollary to this rule: The majority of investors will lose patience and give up on asset classes just when the tide is about to turn. The longer the period of underperformance, the fewer the investors who remain—and who stand to benefit from mean reversion.
Is this time different when it comes to value stocks or emerging markets? Maybe. There are no absolutes when it comes to investing. But I’m willing to bet that the tide will eventually turn. When it comes to value investing and investing more generally, mispricing doesn’t result from a lack of information. Instead, mispricing occurs because of how we process that information in our heads. In other words, as long as markets are dominated by human beings—with emotions and biases—inefficiencies will always be a part of the investing landscape. Remember, it’s always darkest before dawn.
I like your commentaries here John, however I disagree there’s currently blood in the streets w/a near 10% correction in one quarter YTD ;). We all have personal opinions right.
When he says “quite literally” there is blood in the streets, he means…well….literally.
As in, the war in Ukraine.
John, your point about patience dovetails nicely with Bill Ehart’s blog “Finding My Balance,” where he reveals that his mother never sold her good balanced funds. She left her children with what sounds like an ample inheritance, while Bill’s more aggressive, hyperactive investing style brought him disappointment.
Charlie Munger has observed that “It takes character to sit there and do nothing. I didn’t get to where I am by going after mediocre opportunities.”
Thanks, John, for pointing out an inconsistency that I’ve not heard the mutual fund industry address candidly. They preach “buy and hold” investing of their mutual funds, while the funds themselves trade frenetically – which means its investors are not really buying and holding. An index fund gets much closer to true buying and holding, but the only sure way to accomplish it is to buy individual shares of high quality, profitable companies, and hold them directly.
It seems to me that buying shares of what today are high quality, profitable companies exposes you to excessive non-systemic market risk. What are currently successful companies may become disappointing investments when those companies inevitably hit a rough patch in the future.
A company may lose its luster when new, more nimble competitors appear, when the CEO resigns, when new technology or regulation threatens profitability, etc. Under such circumstances, buy and hold may not be tolerable or desirable.
I would think that investing in a broad market index fund would reduce your non-systemic risk and give you a better opportunity to buy and hold for an extended period of time since your investment doesn’t depend on the fortunes of individual companies.
Hi Phillip,
I don’t disagree with your point — mine was focused more on the dichotomy of what the active managers say vs. what they do.
I agree with your thoughts about index funds, although they carry their own risks, such as their ability to become momentum funds at times (the recent weighting of the FAAMG stocks in the portfolio being one example), and their lack of price sensitivity (i.e. the higher the PE of the FAAMG’s, the more that is bought because of the increased market caps).
While Index Funds are an integral part of my portflio, I’m comfortable holding individual securites in my taxable account that carry what I consider to be the “durable competitive advantages” that Warren Buffett cites, and that allow me to choose the price at which I buy, and the ability to manage the tax exposure.
Nice article John. As I thought about this it occurred to me that maybe what we need is the courage to remain patient. When markets get volatile, the intellectual side of me says be patient, this will pass. But the emotional side brings the fear to the party.