It’s commonly accepted that investors who buy and hold for the long term are those that look closely at fundamentals, true underlying value and are not influenced by or contribute towards short-term trends. Shorter term investors who regularly buy into and sell out of equities and indices are the ‘speculators’ riding momentum and trends. They are not interested in ‘underlying value’ and their strategy is to simply take advantage of price movement.
Investors are defined as those who expect to profit from improvements in the business, or that they are able to look beyond where the market has currently placed its value and see its real value. Speculators follow fashion and market psychology and base their profit strategy on the principle someone will be willing to pay more for their assets than they did in the future. They buy and sell regularly to lock gains in.
Speculation is criticised as damaging to financial markets. It is deemed guilty of causing bubbles and crashes which result in sheep-like trends pushing prices higher than logically justified and dropping below fair value, creating instability and damaging long term sustainable investment and growth.
A recent study by Joseph Kushner of Goldman Sachs Asset Management for the Journal of Portfolio Management suggests that long term investors are those that actually more commonly base their investment portfolio on trends rather than analysis of fundamentals. Historically, stock markets have consistently risen over time and downturns or crashes eventually reverse and the market achieves new highs. Long term investors tend to focus on the belief that this historical pattern will continue. They most commonly invest in funds that track a stock market’s benchmark index, large companies with a history of stability and payment of dividends and large growth companies such as the technology giants. In short, they do not really assess the fundamentals of companies or markets but rely on trends.
Shorter term investors on the other hand, those that hold companies for an average of 6 months to 2-3 years, tend to be the real ‘value’ investors. Their strategy is to look for companies that the wider market has undervalued through overreaction to negative news or other factors. They focus on the actual value within the business and trust that sooner or later logic rather than trend will prevail. Admittedly, this is a different species of short term investor and there are also the category who rely solely on technical analysis and trade trends.
There is a counter argument that the long-term trend is also completely based on fundamentals – the world economy is always growing so the big international companies and the benchmark indices that most long-term investors focus on also naturally grow. However, do most long-term investors really base their strategy on this kind of thinking or simply the belief that ‘long term markets have always gone up and always will, despite shorter term fluctuations’? Food for thought.