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Scott Burns

Holding on now - or even buying - can prevent big investment mistakes

By Scott Burns
February 1, 2009
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The question started coming in last summer: "Is it time to sell?"

Many are still asking.

But the right answer, then and now, was the same: "No, it's time to grit your teeth and hold."

Why?

Easy. It's a lot easier to blow a market call than to do it right. We don't know the future. When we think we know the future, we routinely make our biggest mistakes. One telling bit of evidence is the return investors get on their money versus the returns realized by basic buy-and-hold indexes. In an article for the Journal of Pension Benefits, N. Scott Pritchard says 401(k) plans are a miserable failure because most of us make bad choices.

His evidence is the returns investors earned from 1988 through 2007. In that period, the S&P 500 returned 11.81 percent annually, and Treasury bills returned 4.53 percent - but the average investor achieved a return of only 4.48 percent.

This was done by methodically buying equities when they were up and selling when they were down. Our excesses as both buyers and sellers destroy the returns we could achieve simply by buying, holding, and toughing it out.

Another reason this is the time to hold (and perhaps buy) rather than sell is that after a year (or decade) like the last one, the odds favor higher-than-average future returns, not lower-than-average future returns. I've cited research before by Steven Leuthold in which he examines future equity returns from different valuation levels. It shows stocks are now on the cheap side. In previous comparable periods, stocks returned an average of 14 percent a year over the next five years.

It should be noted that this would not be a bonanza. If your equity portfolio lost half its market value over the last year - as many did - then you'll need five years of 14 percent returns just to get back to where you were in 2007. That said, it would be a shame to miss the uptick.

So where, you might ask, is the cash that will fuel a rising market? Isn't everyone broke, tapped out or otherwise encumbered?

Not hardly. In spite of nearly invisible yields, the level of cash being held in money market mutual funds has soared in the last year. According to Money Fund Intelligence, a money market fund newsletter published by Crane Data LLC, equity mutual fund assets fell below $4 trillion at the end of November, from $6.5 trillion at the beginning of 2008. Over the same period, money market fund assets soared from $3.1 trillion to more than $4 trillion. As a consequence, money market funds now account for the highest percentage of mutual fund assets since 1990.

Of course, it could be different this time. But just as we weren't entering a bright "new era" in 1999, we probably aren't entering a dark "new era" in 2009.

Scott Burns is a syndicated columnist. He can be reached at scott@scottburns.com.

SOURCE: Bloomberg News

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