Long term investing is not easy. Investors are often excited about the magic of long-term holdings and the ease of multiplying their returns. However, it is very rare to hold stocks for a long time. It is even rarer to get hundred-baggers from stocks. Why is it not easy to achieve with such a proven investment strategy?
Pick a stock, say Amazon (NASDAQ:AMZN), open the 10-year chart and voila, you see a hundred-fold increase.
Where Value Comes From
In 1977, Buffett published an article “How Inflation swindles the equity investor” in Fortune Magazine, in which he mentioned the source of value of stock investment.
“For the moment, let’s think of those companies, not as listed stocks, but as productive
enterprises. Let’s also assume that the owners of those enterprises had acquired them at
book value. In that case, their own return would have been around 12 percent too. And
because the return has been so consistent, it seems reasonable to think of it as an “equity
Buffett found that the average return on equity of Fortune 500 companies since 1955 (article published in 1977) fluctuates around 12%. Assuming a purchase of 1 times book value, this is also the average annual return of value investors after buying stocks.
With this, Buffett believes that buying stocks, in essence, is equivalent to obtaining “marketable securities” with fixed income. The 12% annualized return of long-term holding is in fact no different from buying bonds.
Since stock investment is equivalent to fixed income investment, time has become the source of value creation, and long-term investment has become the most important and effective investment strategy.
One can only fully enjoy value growth through long term investing. Therefore, value investors emphasized on patience (or PAY-tience) and the belief in compounding effects.
Patience is a rare attribute
Time is the source of value creation, so value investors value the need for patience.
- Charlie Munger has emphasized, “What you need is not a lot of action, but a lot of patience”
- Peter Lynch wrote in his book One Up The Wall Street, ” It takes remarkable patience to hold on to a stock in a company that excites you, but which everybody else seems to ignore. You begin to think everybody else is right and you are wrong. But where the fundamentals are promising, patience is often rewarded “
- Hillhouse Capital founder Zhang Lei wrote in “Value”: “Investment is an exciting business, but investors must not be excited all the time. Every outstanding investor has a rare quality, that is, extraordinary patience.”
Patience is that important, yet it seems unachievable to most investors.
Graham once commented that the most successful value investor must have a strong sense of corporate research and valuation, sufficient patience, strict self-discipline, perfect sensitivity analysis capabilities, a pragmatic thinking attitude, and long-term accumulated investment experience.
To a large extent, patience stems from solid research and analysis, pragmatic thinking, and long-term accumulated investment experience. Without these, patience is like a mirror, but you can see it but you can’t grasp it.
Michael Goldberg, head of Berkshire Hathaway’s insurance business, once commented on Buffet’s buy and hold strategy: “Buffett is always fact-checking on what he hears. Is it reasonable? Is it wrong? There seems to be a computer in his head, constantly analyzing new information. He already has the experience and knowledge, yet he is still asking questions.”
Therefore, after investing in a stock, we must continue to challenge the our investment thesis. To ensure that there is no need to sell. From this perspective, patience in holding shares comes from the understanding of the business’s value. If you buy in haste, you will sell in haste.
Why are you selling it early?
Take the investment in Bitcoin for example. You see investors bragging about their profits online. At the same time, there will also be a group of investors who lament about selling prematurely and how they “should be rich” by now.
In hindsight, everyone is the world’s no.1 investor. Even my “hindsight portfolio” also has a 10,000% return last year.
Most investors stressed out when they see paper losses. In many cases, frequent trading is just a way for investors to try to get rid of this pressure. There is also the urge to protect their profits and cash out early in case there is a “dip”.
In my previous post “Buy and Hold, Hardest Strategy Ever”, I used Jardine Matheson Holdings (SGX:J36) as a case study. Investors would have gotten 320% returns if they were vested from 2009 to 2013. But they will experience 20%-30% drop in share price along the way.
Some investors couldn’t bear to see paper losses so they left the market for a small profit. JMH experienced a brief and violent decline during the pandemic and some people were shaken out. If you had held on during this period of time, you would have recoup your paper losses.
Long-term shareholding requires the awareness and courage to “against the market”. This is also known as contrarian investing. They believe that it is difficult to find undervalued assets in crowded places. They prefer stocks that are hated by the investing community.
The market is rather efficient and stocks that are not sought after by the market often have flaws. This is where contrarian investors will do their due diligence to see if the company is misunderstood and mispriced. These investors must have high conviction that the company will be able to turnaround its business and be able to stomach short term volatility. A good example would be Oceanus (SGX:579), I have been following this company for more than 5 years and they have finally rewarded me with multi-bagger returns.
Another good example would be Liquidity Services (NASDAQ:LQDT). I noticed huge insider buying during the Covid-19 pandemic. Invested in it while their business is temporarily affected by the city lockdowns, 400% returns to date.
Therefore, contrarian investors emphasize on “be greedy when others are fearful”. They do not scan for low PE/PB stocks with their eyes closed, nor just to simply oppose the market. They buy good companies who are experiencing temporary difficulties.
Generally, there is only a short buying window for companies with certain short-term difficulties. Buffett and Charlie Munger have admitted that “If you exclude our 15 best decisions, our performance will be very mediocre.” Therefore, there are very few investment opportunities that are truly worth going against the market. When investors are deeply aware of the lack of great investment opportunities, they will appreciate holding on to these stocks for a long time.
Time is your friend
Economist Paul Krugman has a classic saying, “Productivity is not everything, but in the long run, it is almost everything.”
Similarly in investing, corporate profitability is not everything, but in the long run, it is almost everything. Therefore, the essence of value investing is simple: choose a company with excellent performance, buy at a discount to fair value, and then hold it for a long time.
It’s simple to understand, but hard to execute. To do this, we must do our homework and understand the value of a business or company, and then patiently wait for opportunities.
Long term investing is not easy.
The simpler it looks, the more difficult it is to implement; the more difficult it is to implement, the more effective the result will be and the more returns you get. Tthis seemingly simple and feasible investment strategy is very attractive to investors. However, they made mistakes repeatedly due to the difficulties while executing.