We often hear the term “long-term investor” when presented with the idea that in order to succeed in the markets one must have a sufficiently long time horizon. If you listen to financial advisors, or the talking heads and hosts on financial TV, you’ll often hear them utter something on the order of “long-term investors should not fear a sell-off in XYZ shares,” or “this pullback in XYZ is a buying opportunity for long-term investors.” At the same time, they tout “long-term investing” as some sort of virtuous approach relative to more active, shorter-term management.
But for those who use this investment phraseology, it is little more than a convenient way of saying, “I have no idea where the stock is going from here.” The idea that one is a long-term investor in a stock comes with the “virtuous” requirement that they will hold onto the stock no matter where the price goes. Unfortunately, this is based entirely on the false premise that everything eventually goes higher and keeps going higher, no matter how severely it sells off. Practical experience teaches us that this is simply not true.
Last year I heard a financial TV commentator recommend Yelp (YELP) shares at 78, citing his assessment that the stock was setting up for “another leg higher” and thus represented good value for “long-term investors.” Today YELP is trading in the mid-20 price level. If “long-term investors” in YELP stay long-term enough, they may have the privilege of seeing the stock trade into the ‘teens. Thus the use of the phrase “for long-term investors” merely serves the purpose of insulating the advisor or other individual recommending the stock from any responsibility for poor price performance pursuant to their recommendation. And if they are called onto the mat for it, they have the ready excuse that with the price down so much, the stock is an even greater value “for long-term investors.” This is a recipe for disaster.
I also recall the story of a fellow who had won the Texas state lottery sometime around late 2000 to early 2001, and when a news reporter asked him what he was going to do with the money, he replied quite enthusiastically, “Buy Enron stock!.” He even added his own not-so-brilliant analysis that it represented a “good long-term investment.” At the time Enron shares were selling for just a few dollars. As most investors know, Enron eventually bankrupt, and its shares became worthless. So much for a good long-term investment!
The main problem with this allegedly “virtuous” long-term approach to investing is very basic and intuitive to anybody who bothers to think about it for a few seconds. The logic is simple: unless one plans to leave their shares to their heirs, at some point long-term has to become short-term. For example, anyone investing for retirement may be urged to take a “long-term view,” but the reality is that as they approach their actual retirement age they will need to sell those stocks in order to produce their anticipated retirement income. Therefore, at some point their need to sell in order to derive income once they enter their retirement years turns their long-term investment strategy into a short-term one. In this scenario, one doesn’t have the luxury of having time on their side if they retire at the start of a major bear market and watch their portfolio dive by 30-50%.
Sometimes being a long-term investor can pay off, but I would argue that this is often a function of simple luck, and in the end does not negate the basic principle that at some point “long-term” still becomes “short-term.” For example, I have a close friend who bought a couple of hundred shares of Apple stock back in 1984, and he still owns them. After all the stock splits he now possesses over 5,000 shares, and has obviously done very well with this “long-term” investment. But in the same way that his blind-faith, buy and hold forever approach worked for him, it can also work against him if he isn’t careful.
Over the years Apple has had a long and at times trying and difficult history as a leading U.S. technology company. In 1984, was it really possible to foresee the return of Steve Jobs and the introduction of the iPod, IPhone, and iPad in the New Millennium? And during that 31 years the stock has had big runs and big collapses, including a collapse of -77.5% from 1983 to 1985 and a massive decline of -74.6% from 1992 to 1998. The 1992-1998 decline is interesting since it took place during the 1995 tech boom where technology stocks of all stripes had huge price moves – all except for Apple. From 2000 to 2003 Apple stock declined -51.4% during the brutal bear market that followed the dot.com bubble bursting in March of 2000, and during the great financial crisis of 2008 Apple declined -61.5%. Most recently, AAPL shares declined -45.4% from 2012 to2013, during what was ostensibly an overall bull market phase for the general market.
Chart 1 – Apple (AAPL) monthly chart, 1990-Present. Chart courtesy of HGS Investor Software, LLC, ©2015, used by permission.
Holding the stock as a matter of blind faith throughout all of that, my friend has done pretty well, but only because his long-term view has never been forced to become short-term. After all, 31 years is a lot of time to give a stock, but it begs the question as to whether he has another 31 years to sit with the stock if it declines 50-70% again. It would be quite unfortunate to sit with Apple stock for such a long time and then be forced to sell shares because you need the cash for retirement income or otherwise, only to find that at that very point in time the shares have declined -70%, wiping out most of your prior paper gains.
Speaking for myself, I never consider myself a “long-term investor” unless a stock maintains a steady uptrend without issuing any clear sell signals along the way. In this manner the stock decides for me as I do not decide ahead of time that I will be a “long-term investor.” As well, I do not “marry” stocks and so will generally sell any stock that starts to show a loss of 5% or more, thus I would never hold a stock through a 50-70% price decline.
Occasionally, someone like my friend gets lucky taking a long-term approach with the shares of what has been a truly exceptional company in Apple. But ultimately, the value of this long-term gain will depend greatly on exactly where his long-term approach becomes short-term. Does he sell at or near an all-time high, or does he sell after the stock declines 50-70%? In the end, when you finally need the money, having the bulk of your paper gains in hand after holding a stock for a long period of time versus selling after a big price decline and coming away with only 30-50% of those same paper gains makes a huge practical difference.
All of this is not to say that taking a long-term approach is necessarily wrong. What is wrong is using the label of “long-term investor” to avoid having to make difficult decisions when conditions change, particularly when your long-term strategy eventually turns into a short-term one.
Gil Morales is a proprietary trader and the CEO of Gil Morales & Company, LLC, a registered investment advisory firm, as well as the author of the Gilmo Report (www.gilmoreport.com). He is also a principal and managing director of MoKa Investors LLC and Virtue of Selfish Investing, LLC, as well as a co-author and co-founder with his colleague, Dr. Chris Kacher, of www.selfishinvesting.com. He and Dr. Kacher are the co-authors of the best-selling books, “Trade like an O’Neil Disciple: How We Made 18,000% in the Stock Market” (John Wiley & Sons, August, 2010), “In the Trading Cockpit with the O’Neil Disciples,” (John Wiley and Sons, December 2012), and their newest book, “Short-Selling with the O’Neil Disciples: Turn to the Dark Side of Trading” (John Wiley & Sons, April 2015). He is a former internal portfolio manager for William O’Neil + Co., Inc., where he also served as Chief Market Strategist, Vice-President and Manager of the firm’s Institutional Services group from 1997-2005, and co-authored with William J. O’Neil a book on short-selling, “How to Make Money Selling Stocks Short” (John Wiley & Sons, 2004).
