Like Buffett, Pick Investments That Last Forever

Warren Buffett is famous for saying that his favorite holding period for stocks is “forever.”

Like many of his quips, it’s good for a laugh but also contains a kernel of investing truth: The real gains from stock investing are not made from trading but from owning.

If you own the “right” stocks, then the right holding period is, in fact, forever. Buffett does hold stocks for a long time, often for decades. Over the years, they generate steady dividends and many split and split again.

Of course, Buffett also sells from time to time. How does he square this idea with the “forever” philosophy, and how can you put the strength of his buy-and-hold conviction to work for your portfolio?

Here’s how the Buffett “forever” idea breaks down in practice:

• If you are going to buy a stock, first remember that you are buying a business. As an owner, you should expect to enjoy the proceeds but also the increase in the value of the business itself.
• The basic idea of owning stocks at all is to try to earn a long-term rate of return that is greater than the alternatives: bonds, cash or real estate.
• However, you also want to make sure to allocate your money to the highest return at the level of volatility you can accept. If a stock begins to fall short of your expectations, you are right to sell it and allocate that money to a different stock with comparable risks.

Now, if you are Warren Buffett, you do your homework. You delve deeply into the books of a given investment opportunity. You meet the managers, tour the plants and send your people out to survey the market and the competition.

And, since you have a lot of resources, you negotiate a great price, an entry point low enough to ensure a long-term gain in almost any outcome short of bankruptcy or global catastrophe.

So why doesn’t everyone do what Buffett does? Some try, of course, but the reality is that not very many people have his resources, his people and his expertise. Nor can they negotiate from his position of financial strength.

So they just pick a bunch of stocks and hope they get it right. Or they pay a manager to do it for them and pay hefty fees for the privilege.

Buffett edge made easy

Yet you can approximate Buffett’s “own stocks forever” idea and his allocation philosophy easily and cheaply: Just buy index funds.

When you own the market through an index fund, your holding period is forever in practice, since the fund is 100% invested, all the time. It’s also smartly allocated across hundreds and even thousands of stocks at a very low cost.

When you are young, you own more of the market. As you get older, you dial back your exposure (but not to much!). This brings you the market return while limiting your risk of falling below the long-term returns of bonds, real estate or cash.

Rebalancing periodically, you reinvest all dividends, interest and short-term gains. This supercharges your portfolio through compounding. That’s how owning, rather than trading, gives you the Warren Buffet “forever” edge.