Summary: Buy and hold is a long-term investment strategy based on the view that in the long run financial markets give a good rate of return despite periods of volatility or decline. This viewpoint also holds that short-term market timing, i.e. the concept that one can enter the market on the lows and sell on the highs, does not work; attempting timing gives negative results, at least for small or unsophisticated investors, so it is better for them to simply buy and hold.
The Buy and Hold investment strategy is fairly self descriptive, as the objective is to buy a stock and hold on to it for a long time. An investor using this strategy has no need to monitor daily or short term market fluctuations, as the guiding principle is that riding out the waves will provide a gradual increase over time.
Why Buy and Hold Strategy Can Make Sense?
There are several benefits to this type of investing. One being that while an investor holds a stock that makes them an owner in the company. Being an owner allows certain perks, such as being able to sway the direction of the business through voting rights. Investors that hold stock often get to participate in votes for mergers, acquisitions and for board representation. Being able to participate in those actions allows the stockholder the chance to steer the business in the direction they may feel is best, giving some power to the holder in regards to the course the business takes.
Many businesses also provide some form of profit sharing with stockholders as well, giving added benefit to holding the stock of a well performing business over a long term. Receiving dividends from the stock allows for reinvestment or additional income just for being a stockholder.
Buy and Hold strategies are considered to be a form of passive management. Since the stockholder is not chasing the daily market values, they are passively allowing the stock to generate value over time without having an active role in trading to take advantage market peaks and valleys. The basis for using a passive style such as Buy and Hold stems from the efficient market hypothesis
The efficient market hypothesis assumes that the markets already reflect all relevant information regarding the values of stocks and indexes. This means that every sale is always done at the true value, so there is never such a thing as an undervalued stock, nor are there inflated ones. This assumption allows for the investor to believe that as long as a business shows viability then the value will rise. It also allows for the assumption that it is impossible for an investor to outperform the market.
While Buy and Hold is a form of passive investment, it is not entirely passive as the investor still must individually choose what stocks to purchase. This provides some business research benefit and control to the investor as they are only pursuing those stocks they believe in, but once the stock has been purchased it is not expected to be sold or traded no matter what the market fluctuation around the stock becomes.
Does Buy and Hold Strategy Work in Practice?
There is some basis to claim that a buy and hold strategy is a superior investment strategy when investing in large companies that are profitable and can defend their market position. However, over a long period of time, most businesses do not survive. If they do, they may go through many strategic and structural changes and the business may look entirely different than at the time the stock was purchased.
A far superior approach is to not worry about the holding period, and consider selling stock when the stock price exceeds the intrinsic value of the company. When investments are approached this way, equities are purchased for the long term with the intention to hold as long as there is still value in them.