Two Weddings and a Funeral

April 1, 2004

Fund investors – knowingly or not – follow one of three broad investment strategies. Two have varying degrees of success, one all but guarantees failure. They are:

<b>1. Buy and Hold 

2. Buy Low / Sell High

3. Buy High / Sell Low </b>

Let’s look at each in detail:

<b>Buy and Hold</b>

The principle

Over time the stock market tends to rise because the economy and corporate profits grow. Unfortunately, the ride is rocky for several reasons: 1) valuations often get ahead of underlying fundamentals 2) earnings and economic growth are unpredictable 3) investor’s appetite for risk taking and investing can swing sharply, which adds volatility.

However, since few systems to predict the many ups and downs work consistently, the practical solution is to stay invested at all times. The only way to time the market is to spend as much time in the market as possible. 

In practice

For most, buy and hold means buying index funds or actively managed funds and hanging on to them though thick and thin. We draw a harder distinction.

To us, buy and hold really means allocating money based on an investor’s risk tolerance, their time left before retirement, and financial needs – not by opinions on the market. 

The buy and hold investor puts X% of their money in stocks, bonds, cash, real estate, not by making investments based on what areas of the market they think will perform well. They don’t care what anyone says about the direction of the market on CNBC, or what area of the market is poised for greatness. They don’t buy sector funds or overweight to styles like large cap growth or small cap value - they just buy broad market indexes and let it ride. The reason they change their portfolio allocations around is because they need to change their risk level.

Rebalancing is an acceptable addition to a strict buy and hold portfolio, although doing so could be construed as having an element of “I’m going to sell what is expensive and buy what is cheap”, which contradicts the process here. Rebalancing should be performed once a year to get back in line with the correct risk profile percentages in stocks and bonds.

Buy and hold means investing in stocks and bonds in general, with no goal to find the part of the market that could outperform and no inclination to get into or out of stocks when they’ve reached a peak or a valley. If everybody followed this system there would be no financial TV, magazines, newspapers, stock brokers, or analysts, over-paid fund managers.


This method works over time. Moreover, buy and hold investors save time and stress by simply ignoring the markets behavior. They are less tempted to sell or buy at inopportune moments as they don’t really care how exciting or scary stocks are at any given time. This method allows for the lowest tax, management fees, and transaction costs available as buy and hold investors generally won’t need advice, don’t need expensive funds, and won’t trade enough to incur short term trading penalties, commissions, or realize poorly-timed taxable gains.


The market can get very overpriced every so often. 1929, 1972, and 2000 come to mind. As buy and hold investors are generally fully allocated, it could take years to get back to where they started if they start at the peak of a bull market. There can be entire five to ten year stretches in the market where returns are lackluster. 

Also, index investing means buying whatever the market values the most as stock indexes are market cap weighted. This means if crazed investors think tech is king, buy and hold index investors will own too much tech stocks. If mortgage bonds are the biggest part of the bond market, bond index investors will own mostly mortgage bonds. 

While buy and hold investing is relatively easy to manage when compared to more active strategies, buy and hold investors can have trouble deciding how much of their money to allocate to  stocks, bonds, and cash. Buy and hold investors can also be tempted into panic selling after a crash, even if their long-term portfolio is sound.


This is the easiest way for individual investors to manage their money. And it works. Returns may not be spectacular in the short-term, but buy and hold investing trumps most active strategies in the long run. Buy and holders will find that the best way to follow this strategy is to own low-fee broad market stock and bond index funds (including international stock indexes) as the low fees and high tax efficiency pays off over time. 

This method will beat bank CDs over time frames greater than 10 years as long as buy and hold investors include bonds in the mix. For all the hoopla and index mania, very few investors actually follow this method.

<b>Buy Low / Sell High</b>

The principal

Knowingly or not, this is the method most investors try to follow. Here are different investment moves that all fall under this broad category:

- Easing up on stocks because prices are high

- Buying an investment because it’s out of favor with other investors

- Going into an area because the future seems to be more promising then current prices take into consideration

- Choosing an actively managed fund

- Putting X% in large cap value, Y% in small cap growth, etc

- Buying something  based on past performance

- Buying sector or style index funds

In practice

Anytime an individual investor takes an active role in directing their money they are seeking to buy low, sell high. Even buying a good, low-cost, actively managed fund (say the Dodge and Cox Stock fund) and holding it for years is a buy low / sell high strategy as such an investor is essentially saying, this manager is worth paying slightly more for because they will find stocks that will beat a low fee index fund. Dodge and Cox Stock fund investors are paying someone to do the buy low / sell high investing for them.

Even the simplest decision, say buying a small cap index fund to supplement a total market index fund, is a buy low / sell high move. Such a move is effectively saying, “I’m not happy owning all the stocks in the market the way the broad index owns them, I want to allocate more to smaller cap stocks”. Why? Because they are cheaper or should perform better over time, is the usual assumption. If the move is to add diversity than the investor is saying that a broad index is not diversified properly, implying it is underweight in stocks with more room to grow (buy low / sell high)


The market can be beat, just not by nearly as much as investors seem to think it can be. The buy and hold system is solid, but it can be improved upon by shrewd investors.


Most actively managed strategies, particularly the multitude of trading schemes and systems marketed to investors, fail to beat the buy and hold index investor adjusting for risk. The reasons include higher fees and commissions, higher taxes, and bad ideas on how to invest, among others. 

In an effort to predict the future, investors often forget about the more important issues, such as their tolerance for risk. Even sound investment strategies won’t work if an investor is in over his head at the get go. 

There is a much greater range of returns an investor can earn by buying high and selling low, from very, very bad to surprisingly good. The potential for greatness is present, but so is the potential for failure. 


It takes a heck of a lot more work and know-how to be a buy low/sell high investor than it is to be a buy and hold investor. Done right, it can also be a lot more profitable. Done wrong, and it’ll cost you.

<b>Buy High / Sell Low</b>

In practice

Investors are naturally attracted to any investment that has done well in the past, be it a stock, mutual fund, or the stock market as a whole. They are naturally predisposed to avoid that which has failed.

With actively managed funds, the assumption is that the funds that have performed the best are run by the best managers. Those managers will continue to post above average returns going forward. Baseball teams pay up for top talent and it (sometimes) pays off. The New York Yankees usually beat the Tampa Bay Devil Rays last season, and they probably will usually beat them again this year. Isn’t the same true for mutual fund managers?

Some mutual fund managers are undoubtedly better than others. The trouble is that short-term performance (and even long term performance) isn’t a very good way to identify talent. A fund being up over a twelve month period might have performed well because it is run by a great manager, but it could also just mean the guy got lucky. 

Worse, even if you’re lucky enough find the “best” technology investor, you’ll lose much of your money if you invest with him at the wrong time.

Money flows into whatever has done well. Most investors don’t think they are buying high - they think they are buying skill or opportunity. Sometimes they are right. 

In fact, although we don’t practice it in our MAXadvisor Newsletter model portfolios, there is a subset of investors who knows full well they are buying high, but thinks that which goes high can go higher, and they will get off once the momentum stops.

For some this short term momentum game works. There is momentum in the market, largely because people put money into things that are hot, and that new money drives prices higher, at least for the short term. 

The game for short term hot money traders is to exit before the game ends. This is where things get tricky. Sometimes they get out at the right time, sometimes they don’t. When they do, they are usually just taking money from those investors who were late to the party. 

What doesn’t work is buying whatever was hot over the few years, and holding it. Eventually another area comes into favor and money leaves, or prices can’t support the lofty valuations. This is the move that kills most investors – they are buying high. 

It’s the next stage that locks in the losses: After the area falls significantly and all the short term momentum traders are long gone, the longer term buy high investors sells, giving up on the prospects of what they invested in, be it a manager or sector. This is the selling low part of the recipe for disaster.

Numerous studies have shown that investors under-perform broad stock indexes because of these ill timed bets. 

Bottom line

You’d think after the mistakes many investors made in recent years things would change, but they have not. One of the most popular questions we get by readers and those we manage money for directly is “if the market falls you’ll, sell right? I don’t want to make the mistakes I made last time.” 

Wrong. We won’t do this anymore then buying more of the same investments we already own if the market shoots up. If the stock market falls 30% tomorrow newsletter subscribers can expect an email from us selling our short term bond funds and buying more stock funds in our model portfolios. 

Many top managers we follow, including Warren Buffett, Robert Rodriguez (FPA Capital), and Bill Gross (PIMCO), are carrying cash and short term investments, ready to pick up some value if the market slips. Hopefully they won’t get the opportunity.

We follow a buy low/sell high strategy in our MAXadvisor Model Portfolios; however it is a “soft” buy low/sell high as we still think time in the market is more important then going to cash or predicating the future and betting the farm on it. Essentially we try to improve on the minor flaws of buy and hold investing by taking advantage of the failures of buy high/sell low investors.

Why in the world would anyone hocking services that promise risk adjusted market beating performance though a semi-active strategy tell investors that strategies like ours fail more times then they succeed? 

Because we’re confident in the strategies we employ. While we don’t think for a minute we’ll beat the market by as much as we did in 2003 each and every year, we know our system is sound long term. 

Why? Because it has worked for us since we started this newsletter in 2002? Because we’ve observed similar patterns since we started MAXfunds in 1999? Because our founders have seen the patterns firsthand time and again since getting into the fund business a decade ago?

Yes, and because of this as well: We are essentially doing the opposite of buy high/sell low fund investing. Since that system is a proven loser, doing essentially the opposite over time – over-allocating to areas of the market that are out of favor, paying attention to fees, getting less excited about stocks in general when investors are most excited and vice versa, simply can’t loose.