When it comes to investing, do you consider yourself a short-term investor or a long-term investor?
The answer to this question will likely describe your investing style. Long-term investors prefer a buy-and-hold strategy where the ups and downs of the markets are ironed out over time, providing a reliable and predictable return.
Another name for a long-term investor is a passive investor. Once a passive investor commits capital to an asset, they step back and let the market and the asset managers do their thing.
Short-term investors are all about market timing – anticipating the peaks and valleys of the stock market to beat the market.
The short-term investor (i.e., active investor) takes a hands-on approach – convinced they could do it better than the market. The problem with active investing is that nobody is particularly good at it. Some investors get lucky from time to time, but nobody is consistently lucky all the time.
Here is the problem with market timing: the biggest gains occur in short spurts (typically a day) and are few and far between.
An active investor would have to consistently guess those “best days” to keep up with the market.
Study the following chart:
What is this charting telling us?
The chart says that it’s very difficult to beat the market as represented by the S&P 500 Index. This chart says that even if you were one of the better market timers and missed out on less of the top trading days than the less successful market timers, you would still fall far short of just achieving the market average.
If you missed out on the top 10 trading days over 15 years, your average annual return would be 4.1% compared to 7.1%, the market average. If you missed out on the top 40 trading days, your return would be -2.3% vs. 7.1%.
The futility of timing the market as evidenced by the Schwab chart above is backed up by J.P. Morgan Asset Management data.
See the chart below:
According to the J.P. Morgan chart, the average investor – the DIY active investor – only averaged 2.5% over 20 years. Inflation averaged 2.2%. Considering inflation, the average market timing investor averaged .3% over 20 years – far below the market average (the S&P 500).
Timing the market is not only labor-intensive, but it’s also inefficient. You’re expending more time and effort to make less money. It’s like accepting a new job requiring you to work more hours but at one-third the pay. You wouldn’t do it with a job, so why do it with investing?
Savvy investors know better than to play the timing game. Instead of timing, they are focused on time. Time is valuable to these investors, and they will turn time on its head to leverage it to grow money to buy back their time.
To these investors, active investing has no appeal – not only because they don’t have the time to do it, but because they know they can’t do better than the market.
Smart investors think long-term. They invest passively in assets that take advantage of time through cash flow and appreciation. A buy-and-hold strategy that allows an asset and the asset manager to generate income and growth over time is the key to wealth creation.
A passive investment allows the investor to build wealth in their sleep.
Commercial real estate, agriculture, oil & gas, productive businesses are examples of assets ideal for buy-and-hold. There may be short-term dips in the investment cycle – as the pandemic demonstrated – but, over time, the kinks get ironed out as the expected post-pandemic rebound will also demonstrate.
Time is the buy-and-hold investor’s best friend. Consistent, reliable cash flow that can be reinvested and compounded over time will grow wealth exponentially.
“The ideal business earns very high returns on capital and can keep using lots of capital at those high returns. That becomes a compounding machine. So if you put $100 million into a business that earns 20% on that capital, it says $20 million. Ideally, it would earn 20% on $120 million the following year, and $144 million the following year, and so on. You could keep redeploying capital at those same returns over time. But there are very, very few businesses like that.” -Warren Buffett.
In addition to the compounding effect, a productive business also grows over time as the underlying asset appreciates. Think of the underlying land of an income-producing real asset, productive farm, or business. This is yet another source of ROI on top of cash flow.
The key to wealth isn’t market timing; it’s leveraging time.
Investing long-term to compound wealth through cash flow and appreciation will eventually generate enough passive income to allow you to cash in your chips and buy back your time.
In other words, when you generate enough passive income to replace the income from your job, you are no longer beholden to your job. You are now in control of your time. You can walk away from your job if you choose, but whether you stay or go, the decision is ultimately up to you and nobody else.
It is time and the leveraging of time through long-term investments that have bought you this time – not timing.