Whether you're a brand-new investor or a seasoned veteran of many years or decades, the stock market can be somewhat intimidating. There are well over 7,000 securities to choose from, ranging from well-known, brand-name stocks all the way down to single-drug micro-cap biotech stocks and leveraged ETFs that would make even the riskiest gamblers think twice. If you don't have an investing strategy and are just "winging it," you could be eaten alive.
Thankfully, the best investing strategy is also absolutely the easiest to stick to: long-term investing. Here are five reasons why you should become a long-term investor.
1. It takes the emotions out of investing
The most-important reason why you should be a long-term investor is that it will almost always keep you from making rash decisions that you'll regret later. Buying stocks and holding them for long periods of time should reduce the anxiety you might experience when stock-market corrections occur, or stocks spike higher.
For example, if you had jumped out of stocks during the first two weeks of the year when the indexes logged their worst start in history (down 8% to 10% for the three major U.S. indexes), you'd now be kicking yourself. The S&P 500 (SNPINDEX:^GSPC) has rallied nearly 15% since hitting its 2016 lows in mid-February, shortly after its beginning-of-the-year tumble. Likewise, running for the sidelines because of Brexit, Britain's announcement that it was exiting the European Union, also proved to be a mistake.
Buying and holding means a better night's sleep, not having to watch every single tick of your stocks, and a big reduction in the way emotions factor into your investing strategy.
2. You'll focus on the big picture
Secondly, being a long-term investor will train you to focus on the big-picture investment thesis, and get you out of the habit of only looking in the rearview mirror, or a quarter ahead, at best. Short-term traders can certainly be successful from time to time by betting on growth or value stocks, but duplicating this short-term success over long periods of time is practically impossible. Instead, analyzing the broad-scope growth drivers for the stocks you own will give you a much-better perspective of whether or not a company's business dynamics have shifted, and subsequently, whether or not it's worth holding or selling.
For instance, Netflix (NASDAQ:NFLX) investors were none too happy when their company chose to move away from the DVD rental business in 2011 and push its new streaming service. The costs to roll out this service caused Netflix's expenses to rise, and in the interim, we saw a rapid deterioration in the company's margins and profits. Netflix's stock lost around 80% of its value in just over a year.
However, more than three years later, Netflix shares are up well over 1,000% from its 2012 lows, and have more than doubled from its 2011 high. Netflix's management team realized the growing obsolescence of the DVD rental business, and chose to abandon its core source of revenue generation in favor of what it believed to be the next-generation of content uptake. In retrospect, it was a great call on the part of Netflix's management team, and long-term investors who've been monitoring the bigger picture have been greatly rewarded, too.
3. The data is on your side
Another reason to consider being a long-term investor is that you'll practically always be right -- and who doesn't like to be right? Right?
According to data provided by Yardeni Research, the S&P 500 has had 35 separate stock-market corrections of at least 10% (when rounding to the nearest whole figure) since 1950. Although the timing of these stock-market corrections is completely random, 35 corrections in nearly 66 years implies that they're quite common -- which is yet another reason to remove emotional investing from the equation.
What's more important is that of these 35 stock-market corrections, each and every one since 1950 has been firmly put in the rearview mirror by a stock market rally or bull market. That's 35 for 35, and you certainly don't need to be a math wizard to figure out that's fantastic. Stock valuations, as a whole, have tended to increase historically by around 7% a year, including dividend reinvestment, which bodes well for the patient long-term investor.
4. You'll pay less in taxes
According to the Internal Revenue Service, sitting on your hands, and allowing time and compounding to work in your favor, should also help you come Tax Day.
Current capital gains tax rules are pretty cut and dried. If you recognize a gain on any of your stocks within a period of 365 days or less, you'll be taxed at a rate commensurate with your peak ordinary income tax rate. Assuming you're in the 28% income tax bracket, any short-term profits you take will be taxed at a lofty 28% rate by the federal government. The seven-tiered progressive income-tax brackets range from a low of 10% to a peak of 39.6%.
However, assets held for at least 366 days qualify as long-term holdings. The long-term capital gains tax rate has just three progressive tiers, and they're all lower than what you'll be taxed over the short term. The highest income earners, who would pay 39.6% for a short-term capital gain, owe only 20% in taxes if their capital gain is considered long term.
Taxpayers in the 25%, 28%, 33%, and 35% income-tax brackets will owe just 15% if their capital gain is long term. Finally, persons in the two lowest tiers -- 10% and 15% -- owe 0%, nada, zilch if their capital gain is long term. If that's not an incentive to buy and hold, I don't know what is!
5. You'll also owe less in commissions
It may not be as strong an argument as, say, lower tax rates and a 100% success rate, at least historically, but being a long-term investor probably means paying less in commission to your broker, too.
In 2012, NerdWallet released a study that found investors are overpaying for brokerage commission fees by more than $1.8 billion a year in aggregate, or about $110 per year per person. Active traders can qualify for discounts from their brokers, but the sheer volume of trades they make can add up to hundreds or thousands of dollars each year.
When you're a long-term investor who chooses to make investments at regular intervals, commissions become more or less an afterthought. What's $9.99 to you when you're likely buying a high-quality business that's paying a dividend, and could double over the next decade?
Long-term investing has made winners out of legends Warren Buffett, Peter Lynch, and John Bogle, and it can probably do the same for you. What are you waiting for?
Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.
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