Why Trade Your Thrift Savings
Published: Nov. 22, 2001; (Updated: 3/20/04, 11/06/14, and 05/11/17)
During the 1980s and 90s, the buy-and-hold strategy of investing was a great way to build your savings since equities were in a secular bull market. Then for a decade and a half, market dynamics changed as the stock market was trapped within a secular bear market. Meaning, the buy-and-hold strategy was a poor method of building your retirement savings.
To start, let's take historical data
and construct a yearly linear chart of the Dow Jones Industrial Average (DJIA) all the way back to the beginning of the 20th Century up to year 2004 (chart below). Looking at this chart, we see the stock market going ballistic ever since the early 1980s. Prior to this time, the market looked non eventful. But it was. The market had a vast history of painful times as well as prosperous times.
When we reconstruct the above data into a yearly logarithmic chart (log chart shown below), things begin the pop out and become more clear. Percentage charts work just as well to accurately present stock history.
Now, let's get down to the nitty gritty by annotating parts of this chart. We will lump the chart into bad times and good times. The bad times were those periods when the market was caught in a long-term trading zone. During these years, it was much better to trade your savings, since the buy-and-hold strategy of investing produced next to nothing in terms of growth. The good times occurred when there was an uptrending market. During these years, it was advantageous to be part of the buy-and-hold strategy. Meaning, sit back and let the good times roll.
Update to the Dow Jones chart above (Nov. 06, 2014)
Bad Times: Two rather devastating periods can be seen. The first one was during the Great Depression when there
was a significant drop in the market from September 1929 through July 1932. During this time, the Dow lost 90% of it's value. Another painful period was during the collapse of the market in 1973 and 1974. One may ask, what about the crash of 1987? Didn't the market significantly decline during that year? Yes it did. However, the chart is a yearly chart. Meaning, we used only one data point per year (i.e., the value for the last trading day of each year). Since the buy-and-hold strategy was in full force during the 80s and 90s, by the end of December 87', the market actually closed higher that year then when it started in January. The year 1987 was unbelievably a profitable year. That's the reason why this crash did not even show up on the chart.
Were there other bad times in the markets? Yes. Looking at the history of the market, we see periods when the market was basically flat for many years, even sometimes decades. We will label these periods as "Trading Zones". During these times, if one would have invested in mutual funds, solid blue chip growth stocks or components of the Dow Jones, there would have been a negligible amount of growth over these long periods of time.
How long of periods are we talking? How does over 40 years sound? From 1900 through 1941, the Dow Jones only
increased at a rate of return of about 1.8% per year. Another stagnant period was from about 1963 through 1982 (20 years),
when the Dow Jones industrials only increased at a rate of about 2.5% per year. These are the dangers of buy-and-hold investing. We invite you to read more about these dangers and the history of the stock market in our article,
Is "Buy & Hold" The Only Investment Solution?
The next trading zone was from year 2000 to 2014. During this time, the stock market traded within another secular bear market. Prior to that time, the market was in a secular bull market. In this secular bear market there were many bull and bear cycles as shown in the chart below. The first bear cycle was from year 2000 to 2002, where the majority of investors probably took a sizeable hit in their portfolio. Next came a bull cycle from 2002 to 2007, followed by another grueling bear cycle from 2007-2008 (where the S&P crashed 57%), which again wiped out many investors hard earned savings. During a secular bear market, it is critical that we trade our accounts so that: (1) we protect our capital during a crash within a bear cycle, and (2) continue to outperform the buy-and-hold strategy of investing for bull and bear cycles. Then in year 2014, the dynamics of the market changed with a breakout above the uptrending boundary of this expanding zone.
Good Times: There were two intervals when the buy-and-hold strategy worked rather nicely. One period was from
about 1942 through 1962 (21 years), when the DJIA had a rate of return of about 9.0%, and another from 1983 to March
2000 (about 18 years), having a 13.7% rate of return. Yes, those were super times to ride the mutual fund wave or the buy-and-hold strategy.
The market then experienced the next bull cycle beginning in March '09. The buy-and-hold strategy is an good way to invest only when we are in a secular bull market. During secular bull markets, it is wise to heavily invest in the stock funds. Though, even in secular bull markets there will be periods of high risk, volatility, and pullbacks - this is when our methodology shines and outperforms the buy-and-hold strategy by allocating in the stock funds at appropriate times in order to achieve the highest reward/lowest risk for capital growth.
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