I’m a long-term investor at heart, but occasionally take advantage of medium-term swing trading opportunities. I never daytrade.
You may wonder why so many investment services sell short-term tools. The reason is that there’s no money in selling long-term investing tools. People will not subscribe to a product that tells them the same thing no matter what’s happening in the market, such as, “Buy more of the S&P; 500 each month,” even though that’s precisely the advice that would be best for the rest of most people’s investment lives.
There are times, however, when an especially great inefficiency presents itself. The market simply misprices some stocks now and then, and the finding of such mispricings is what gives some investors an edge. They put the bulk of their money in an index or something based on an index to get the 10% per year that the market returns. Then, they use a smaller portion of their money to chase individual stocks to try to bump up that 10% by a little bit.
For that smaller portion of your money, is trading or holding a better approach? I say holding, for a variety of reasons.
Jeff in New York asked me if I saw any benefit to swing trading. I answered:
Swing trading in the medium term is a good way to make money. I’ve done quite a lot of it in The Kelly Letter, actually, by owning something for 4 to 6 months and getting 60% out of it.
That’s not where the truly big money happens, though. Look at the list of giants in the investing business and you’ll see that all of them bought at great prices and held and held and held with no sales to incur capital gains taxes, little stress, and the power of compounding sending their worth to the moon. I’ll take Hansen’s Natural five years ago over a half-year swing trade any day. $10k invested in Hansen’s five years ago is worth $860k, and that’s down from a year ago when it was worth a cool $1 mil. The stock is currently up 8,500% in five years, but who heard of it and who wanted it back then? Almost nobody.
Jeff replied:
I understand the theory of the long-term approach. But that has its pitfalls too. You can identify a great stock but then feel it’s time to move out of it too early.
I noticed your pick of DECK. Great stock. Made 40%. But had you stayed in, it would be five or six times that and still climbing. If you — someone who knows much more than me — jumped out of a big gainer when there was still a lot more life in it, I certainly can make the same mistake (or overcompensate and hang on too long).
Yes, we all want the Hansen’s Natural 8,500% gain. It’s a home run. It’s a grand slam. Bottom of the ninth, walk-off World Series ending grand slam. But that’s not everyday life. Everyday life of everyday people like myself is grinding out singles. Getting on base. Doing little things.
The DECK example underscores my point that holding is usually better than trading, at least when it comes to well-researched investments.
The Kelly Letter began watching Deckers Outdoor (DECK) in March 2005 when it traded at $40, down from $48 the previous December. After watching and waiting for half a year as the stock kept dropping, I finally bought it in October 2005 at $23. It then plunged almost immediately to $17, where I doubled down. The letter’s average price was $20. I then sold the stock just two months later for a quick 40% gain.
Since I sold in December 2005, DECK has risen 296% to close yesterday at $111. What became a 40% gain for my subscribers would have become a 455% gain had I held on for the long term. That was my mistake.
Instead of seeking the quick buck, I should have trusted the research I’d done on Deckers, had faith in the insider ownership of the company that had seen it through tough times before, and resisted the urging of some subscribers to get out while the getting was good.
A significant portion of my subscribers at that time had been schooled in the O’Neil method of stopping losses at -8%, so there was an outcry when instead of stopping out, I bought more at a price 26% below my initial buy.
I average down relentlessly. I rarely stop out. I’ve done it on high-risk trades that were clearly identified to subscribers as high-risk trades, and those times ended up being the right moves as the stocks in question kept sinking far past the prices at which we stopped out, but those times were exceptions.
When I bought more DECK after it sank 26% below my first buy, people were already wringing their hands. I assured them that all looked well with the company, in my opinion, and that the lower price was just a better bargain. When the price then shot past both of our buy prices and put us firmly in the black, those hand-wringers were crying to get the money out before we had to suffer through another plunge.
I should have realized that one of the reasons people subscribe to a letter is to help them get around their own shortcomings. It was my responsibility to show them that their powerful but misleading emotions were in the way of a great opportunity. Instead, I took the quick gain, added it to my list of successes for the marketing department, and let a big one get away.
Sitting on swelling gains is not the way to make money in the investment advice business. People who subscribe later are frustrated when they see they missed out on most of the gains. A rapid turnover is the way to keep subscribers happy, even when it’s not in their best interests.
What I vowed after the Deckers mistake was that I would strike a balance between turnover and core positions. I keep new ideas coming these days, but not at the expense of ideas that I think still have a lot of potential.
Also, importantly, I have more faith in my own research as time goes by. Most of my mistakes have been of the Deckers variety, resulting in more lost opportunity than lost money. That’s the better of the two options, but is still not acceptable.
Research is hard, clear choices are few, and firm conviction rare. When the hard research turns up one of the few clear choices that creates strong conviction, that alignment should be respected and exploited for the multi-bagger profit potential it brings.
Jeff wrote that if I could make such a mistake as selling Deckers too soon, so could he. Yes, he could, and so could you. We’re all capable of investing mistakes. The key is to learn from them and improve over time.
Most investments do indeed become the single base hits Jeff refers to. He’s right when he says that grand slams are not everyday life. They’re rare. As Hansen’s and Deckers and Apple and so many others prove, though, fat pitches over the plate exist. It’s our job as investors to keep stepping up to that plate, keep our eyes on the ball, and just once or twice in our lifetimes to hit it out of the park.
From the opening paragraph of my stock book:
When I was eleven years old, my grandfather explained to me in less than ten seconds why he invested in stocks. We sat by his pool in Arcadia, California and he read the stock tables. I asked why he looked at all that fine print on such a beautiful day. He said, “Because it takes only $10,000 and two tenbaggers to become a millionaire.” That didn’t mean much to me at the time, but it does now. A tenbagger is a stock that grows tenfold. Invest $10,000 in your first tenbagger and you have $100,000. Invest that $100,000 in your second tenbagger and you have $1 million. That, in less than ten seconds, is why everybody should invest in stocks.
