Staying the Course
It is much easier for "know nothing" investors to stick with a dollar cost averaging program in the long run.
“Charlie and I happily acknowledge that much of Berkshire’s success has simply been a product of what I think should be called The American Tailwind. It is beyond arrogance for American businesses or individuals to boast that they have ‘done it alone.’ The tidy rows of simple white crosses at Normandy should shame those who make such claims. There are also many other countries around the world that have bright futures. About that, we should rejoice: Americans will be both more prosperous and safer if all nations thrive. At Berkshire, we hope to invest significant sums across borders. Over the next 77 years, however, the major source of our gains will almost certainly be provided by The American Tailwind. We are lucky – gloriously lucky – to have that force at our back.”
— Warren Buffett’s 2018 Letter to Shareholders
For decades, the tried and true formula for a young person seeking financial security was to invest regularly in common stocks and simply stay the course. Starting with little or no net worth, a young investor’s primary “asset” is their own productive potential. By working hard, saving as much as possible, and investing well, it is possible to eventually hit the point at which one’s investments provide cash flow sufficient to reach financial independence. At that point, how you spend your time is entirely up to you.
Will this fortunate state of affairs continue in the decades to come? Nothing is certain in life, but we should not fall into the trap of idealizing the past. A young person starting out fifty years ago was faced with high inflation and a political system shaken to its core by Watergate. However, a simple method of investing in American stocks at low cost was just over the horizon. In 1976, Jack Bogle introduced the first index fund which made it easy for investors to match the broad market.
When it comes to maintaining a program of dollar cost averaging into a broad index fund, I believe that too much knowledge of business and investing can actually be a handicap. Those of us who follow business news on a daily basis process countless pieces of incoming data and must overcome many temptations to trade on our supposed “insights” while the blissfully ignorant can go on living their lives with limited stress, assuming that they rarely check quotes. For such individuals, owning a broad index fund that is made up of hundreds or thousands of companies is fine because they make no attempt to follow the businesses or track valuations.
What if valuations are at historically high levels when a young investor is starting out? Dollar cost averaging without interruption ensures that the investor will benefit from market declines when they inevitably come. It seems better to just get started even if valuations seem lofty at the outset, knowing that future investments will go further if the market declines.
It’s easy enough to preach the virtues of dollar cost averaging into a broad index fund, but the fact is that I did not pursue this approach myself. However, I did pursue a periodic investment program in Berkshire Hathaway. I first purchased shares of Berkshire exactly a quarter century ago. Since I wrote about my experience in quite a bit of detail five years ago, I will not repeat the background here. Instead, I would like to reflect on what made it possible for me to stay the course in Berkshire over such a long period of time when I probably could not have done so in an index fund.
For the “know nothing” investor, owning an index fund is an abstraction comprised of a large collection of businesses, but for a “know something” investor, there is always a temptation to look “under the hood” and examine the components or the valuation of the entire basket. This is particularly hazardous for those of us who read annual reports and proxy statements. Owning a broad index is designed to achieve average results, and even if those results will beat most active strategies, the reality is that it will include many companies that are poorly and unethically run. I have always found executive compensation practices at the typical company to be borderline nauseating. Reading proxy statements is often an exercise in intestinal fortitude. The “know nothing” investor spends his weekends on more pleasant pursuits.
In my case, it has always been easier to stay the course in individual companies rather than in broad index funds. Berkshire Hathaway is the best example of such a company. Since I have followed Berkshire for three decades and owned it for a quarter century, I have a very clear understanding of each area of the conglomerate. Equally important, I trust the man in charge and know with certainty that nothing will be done to take advantage of small shareholders. The seamless web of deserved trust that Charlie Munger often spoke about extends well beyond Berkshire’s managers to shareholders as well.
From 2000 to 2005, I regularly invested in Berkshire and still hold this core position today, although I have bought and sold shares since that time. Almost since the beginning, Berkshire represented my most important investment. During the financial crisis of 2008, I held my shares without fear, psychologically bolstered by knowing exactly what businesses my shares represented and understanding who was managing my capital. When Berkshire’s shares were left for dead in mid-2011, trading not much above book value, I did not panic because I knew what I owned. The same was true during the brief pandemic bear market.
I cannot say with complete confidence that I would have been psychologically able to stay the course if my position in Berkshire Hathaway had instead been invested in the S&P 500 during those periods. Since I was following business news on a daily basis throughout these periods, the temptation to sell at the wrong time would have been ever-present. I certainly had the intellectual knowledge needed to stay the course in a broad index, but I am not prepared to claim that I would have been able to do so. Someone who was blissfully ignorant of the news would not have had this problem.
None of this is to suggest that readers should invest in Berkshire Hathaway today or that my approach over the past quarter century should be emulated, although it did work reasonably well for me. The point that I would like to make is that the best investment program means nothing if you are not able to stay the course. I am skeptical that the typical individual involved in the investment industry is capable of simply dollar cost averaging into an index fund over long periods of time without succumbing to the temptation to made “adjustments,” probably at the worst possible time. However, I do think that most individuals outside the industry should be capable of it, provided that they ignore the financial media.
If we accept the proposition that the typical active investor underperforms the broad market, then we would have to conclude that the “know nothing” investor who dollar cost averages into a broad index will end up with better performance in the long run. This is one of the great ironies of investing!
In my case, choosing to invest in Berkshire Hathaway was the right choice, both in terms of performance and owning an asset that I could understand and identify with over long periods of time. Warren Buffett and Charlie Munger never guaranteed results, but they did guarantee that their economic outcome would match my outcome and I knew with certainty that I would be treated fairly. That knowledge allowed me to stay the course through some very tough periods.
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Individuals associated with The Rational Walk own shares of Berkshire Hathaway.