Warren Buffett once said, “If you
don't feel comfortable owning something
for 10 years, then don't own it for 10
minutes.â€
In the wake of the worst market crisis since the Great
Depression, many investors have strayed from
Buffett's simple advice. Although some
investors hoarded their money away, crippled with the fear of
losing a retirement fund or their
children's college savings, others tried
to offset their losses by making short-term bets on
questionable stocks.
An emotional roller coaster
The volatility of the last year and half caused even
the best of us to become extremely shortsighted. From
September to mid-October of 2008, somewhere close to $100
billion in stock funds left the market. Where did it all
go?
Many investors fled to money market funds, short-term CDs,
or just plain old vanilla cash. Other investors, who wanted
more than the 1%-2% that Treasuries offered, looked toward
junk bonds for higher yields. And many investors speculated
on beaten-down financial stocks like
Citigroup (NYSE: C) or
Bank of America (NYSE: BAC).
These strategies didn't always fail.
ETFs like
SPDR Barclay's Capital High Yield
Bond (JNK), which holds debt from companies such as
Chesapeake Energy (NYSE: CHK) and
Sprint Nextel (NYSE: S), have experienced
returns of over 60% year over year. Bank of America, on the
other hand, is down 8% year over year.
However, tactics like these are for the short term only --
and by definition, they aren't going to keep your portfolio
afloat for the long haul.
Heading for the exit?
It's true that by taking profits
every so often, you can protect yourself from the downside of
unexpected disasters in the marketplace. If you held on to
shares of General Motors or Lehman Brothers no matter what,
you most likely lost everything you had.
However, the majority of the time, selling based only on
price -- whether in fear that the market will drop further,
or to lock in gains -- does more to hurt you than it does to
help. If you've held a stock for less than
one year, you'll be subject to higher
capital gains taxes. In addition, you incur transaction costs
with your broker every time you decide to cash out or buy new
stocks.
But most importantly, selling stocks based only on price
leaves you in a precarious position -- especially now. What,
after all, do you do with your earnings? Do you reinvest in
other stocks, place the gains on the sidelines and try to
time the market, or simply take your profits and then
reinvest in the same stocks?
To illustrate the downfall of taking premature gains, I
looked at what you'd have missed out on if
you had fearfully sold these five stocks during the tech bust
of 2000-2002 (with a standing investment of $1,000 in each
stock). In the subsequent seven years, these stocks performed
incredibly well. Had you sold them out of fear or to lock in
profits and time the market's upswing, you
would have missed out on these tremendous gains.
Stock
7-Year CAGR*
Final Value
Apple
58.7%
$25,353.53
Priceline.com (Nasdaq: PCLN)
56.2%
$22,686.48
Akamai Technologies
46.3%
$14,345.32
Amazon.com (Nasdaq: AMZN)
29.5% Continued... |