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On energy and buy and hold; A few thoughts for investors April 8, 2009

Posted by shaferfinancial in Finance, Uncategorized.
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As I have noted before, Warren Buffett has gone strong into energy investments.  From large  scale wind power, to batteries and electric cars, to shale oil, to conventional power, Warren has made substantial investments.  Traditionally, economic activity required both power and real estate.  Now with the internet the real estate section has been slightly diminished, but the need for power has not.  If anything we are even more dependent on power to run all those servers around the world.  His thinking is succinct, economic activity requires power; even though we are in a trough for economic activity our power needs will increase over time.  Look around at your own home and compare it to what it looked like 20 years ago.  Computers, modems, printers, fax machines, flat screen TVs, are all part of the average home now.  They all require power.  Now if you are like me, you have done things to reduce your power consumption like fluorescent light bulbs or more fuel efficient cars or have gone to cheaper natural gas.  And certainly there are technological advances coming down the pike that will help folks become more efficient [smart grids, smart homes, etc.], but overall the trajectory is for more energy usage.  From an investor perspective, I believe Warren is right and energy might be a great place to put some of one’s investment dollars for the long run.

Buy and hold is dead has been screamed from the rooftops on the back of the “lost decade” of equity investing.  However this is far from the truth.  I would argue that index investing combined with buy and hold strategies should be illuminated for the poor strategy it was.  Latest Dalbar Inc. study points out this.

Equity Mutual Funds                           Asset Allocation Strategies

5 Year Return

-2.84%                                                                       -2.99%

10 Year Return

-1.57%                                                                        -1.26%

20 Year Return

+1.87%                                                                        +1.67

That is what a severe bear market will do to those strategies, something everyone knew, but was afraid to admit.  Now here is the problem.  These strategies are designed to reduce overall variation, skewed to the upside.  After this bear which reduced share prices to half their value, you need some huge returns [totalling 100%]  to get back to the peak point.  Simply put, indexed mutual funds are not designed to do that.  In short, indexed funds are designed to reduce overall variation, but doesn’t protect against systemic [market] risk that we see every few years.  It protects you against huge mistakes in stock picking, but not against anything else in return for diminished potential returns.  A faustian bargain if there ever was one.  But this is not the buy-and-hold strategy talked about by Warren Buffet and others!

Buffett et al. suggest that one buy stocks with good fundamentals [cash flow, excellent product lines, low debt, good management, enough history to have a solid upward trajectory, etc.] when they are cheap relative to their history and then hold on until something changes fundamentally about the company.  You are buying businesses, so the analysis should be done about the business not the stock, and patience should be exercised before buying.  This strategy requires patience on both the buy and sell side as well as actively following the stock.  Buy a stock with the thought that the stock market will be closed for 10 years according to Buffett!

That is the buy-and-hold strategy, not buying-and-holding index mutual funds! And that is not dead, probably the only strategy that is still alive!

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Comments»

1. Peter Rohr - March 20, 2013

everybody admires the way warren buffet invests. if I had as much capital to play with, I might do the same.


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