A common rivalry in the financial world is “Buy & Hold” vs. “Active Money Management”. So which one is better? Simple answer…it depends! If you were to look at a long-term chart of the Dow Jones Industrial Average (Figure 1) going back to 1900, then you would see alternating time periods of prosperity and times of stagnation (flat to negative growth). On average these alternating time periods are around 15-years in duration. During the three time periods of prosperity “buy and hold” investing provided solid returns. However, during the three periods of no growth “buy and hold” actually lost money especially during the periods of stagflation (which means no growth and high inflation) which caused significant losses in real returns (returns after inflation).
Figure 1
Sources: Ned Davis Research (Secular Bear Markets), WSJ Market Data Group (DJIA)
Figure (1) specifically shows that the market grew from the low in 1915 to 1929 leading up to the “Great Depression”, approximately 14 years of prosperity. Then during the “Great Depression” from 1929 to 1942 the market averaged an annualized loss of 10%. Then, spurred on by World War II the Dow went from 100 in 1942 to 1,000 in 1966 increasing tenfold during a time of prosperity. From 1966 to 1982, a 16 year period of no growth, the market averaged -1.5% per year. Jump started by Reaganomics, then propelled higher by the tech bubble the market had one of its greatest bull markets of all time. From 1982 through 2000 the Dow went from 1,000 to over 10,000. Finally, year 2000 until present we have experience a net loss after 9 years.
Stagflation in the 70’s
Let’s take a closer look at the previous period of stagflation from 1966 to 1982. (Figure 2) As you can see during that 16-year period there were some significant falls and some strong rallies. In fact, the market decline from 1973 to 1975 was a loss of almost 50%. The following year from the 1975 low of 577 to the 1976 high of 1,000 the DOW rallied nearly 75%. During that 16-year time period there were other extreme falls followed by impressive rallies. A good active money management strategy will thrive during those times compared to the “buy and hold” allocation. The “buy and hold” portfolio would have lost money during that’s same 16-year time period.
Recent Market Events
If you look at the most recent decade since 2000 through to the present day (Figure 2), you will see similar major swings in the market. The DOW from 2000 to the end of 2002 was down nearly 40%. During that same time period, the tech heavy NASDAQ was down over 75%! During the following 5-years, the market nearly doubled with almost a 100% return. Then, the biggest market decline since the “Great Depression” came. From November 2007 to March 2009, the DOW was down over 54%. And most recently, in the last 2-months alone, the DOW has increased over 30%. The biggest two month rally in the last 70-years.
Over the past nine years, if you had your money invested properly, it would have been possible to be more defensive during the bad times, like the bursting of the tech bubble and also during 2008. At the same time, it would have been possible to to take advantage of the bull market from 2003-2007 and the recent 30% bounce off the bottom.
Figure 2
Source: StockCharts.com
Advantages of Active Money Management
During the non-growth periods, the reputable active money managers would have most-likely outperformed the “buy and hold” group because of their ability to go cash during the bad times. In turn, being able to get back in the market as the market turned around. To be fair, not all active money managers would have done better than the “buy and hold” managers during those time periods. It is not easy to time when to get in and when to get out of the market. But, reputable active money managers with a solid understanding of technical and fundamental analysis combined with a contrarian mind set, will increase your chances of outperforming the market significantly during times of stagnation and stagflation.
Another major advantage an active money manager has is their ability to spot emerging areas of growth outside of the typical asset allocation, and focus a portion of the portfolio to take advantage of strength in specific sectors. The most recent example of this would be the growth of commodities during 2003-2008. Asset classes like steel, oil, natural gas, coal, fertilizers, etc. outperformed the stock market by over 300% during that same time period. Other examples would be REITs (Real Estate Investment Trusts) from 2000-2005. Real Estate related stocks outperformed the stock market significantly, experiencing positive moves even during the bear market from 2000-2002. Emerging markets from 2003-2008 far outperformed your typical asset allocation during the same time period. Good technicians (chartists) are able to spot and take advantage of new emerging sectors coming off of bottoms.
What’s Next?
I believe we are 9-years into a cyclical 15-year period of stagnation that began in the year 2000. I also believe there is a very good chance over the next year we will see inflation increase because of the amount of money the U.S. government and other governments around the world are spending. If history repeats itself, we will experience extreme volatility. This means we will have powerful moves upward followed by powerful moves downward. If you are in the “buy and hold” camp during this time period, you will be at a serious disadvantage to some active money managers. These money managers will take advantage of powerful upward moves and honing in on the sectors that will outperform during inflationary times. Also, being able to go defensive if the market falls and experiences a prolonged bear trend.
Allgen’s Investment Approach
Allgen specializes in active money management. Through technical and fundamental analysis, along with a contrarian mindset, we strive to navigate the markets during periods of prosperity and/or decline. We constantly research and study the markets to find the next emerging area even in asset classes that are typically not used in your “buy and hold” asset allocation portfolios. During the good times we focus on strength, and during the bad times we try to preserve wealth. During periods of stagnation, such as we are experiencing now and potentially years to come, we see ample opportunities to take advantage of this market. If you want to see how active money management may fit into your overall investment portfolio then please email us advisors@allgenfinancial.com or give us a call at 1-888-6ALLGEN (625-5436).
Written By:
Jason Martin, CFP®, CMT
Senior Partner & Chief Investment Officer
Allgen Financial Services, Inc.
martin@allgenfinancial.com
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