Saturday, November 13, 2010

Own, or own not: there is no 'hold'"!

I realize "hold" -- an advice between "buy" and "sell" -- is a very old concept: "don't initiate a new position (or add to an existing one), but don't exit (or reduce) your current position, either, if you have one".  However, except in a long-past world of very high commissions, it has never made sense to me!

Maybe it does to traders... I wouldn't know: I'm an investor, not a trader.  Say I either already own a portion of P% a business, and I'm extended an offer of $X if I will sell that portion; OR, I don't already own any part of the business, but I'm extended an offer of $X if I want to buy such a portion (IOW, assume no commissions -- with various super-discount online brokers offering commissions in the very low single digits for stock trades, you might as well, if you're buying or selling any significant amount).  Mr Market is making you such offers to either buy or sell all of the time, of course.

Surely, either offer makes sense for you to accept (if you do understand the business well enough to be in it at all, so you can give a reasonable estimate of whether the business as a whole is, or isn't, worth $X/P%, or some amount above it, or below it -- if you have no such understanding, then, of course, it's absurd for you to even consider being involved in owning that business at all!).  So what is that "hold" business, where apparently neither offer is worth your consideration?!  The business is not worth any more than $X/P%, either you'd accept the offer to buy it; but neither is it worth any less than that, or else you'd accept the offer to sell it.  If the offer is "exactly at the money" and happens to match precisely the business's value, then I guess even a one-penny commission, or a cost of a penny for your time executing the transaction, would make both offers best rejected -- but surely such accidental perfect match is an incredibly rare coincidence, no?

It makes perfect sense for you not to want to add to your existing position because of differentiation considerations -- you may sensibly have boundaries on what % of your portfolio you're going to allocate to a specific stock,  or sector, and accepting an offer to buy more might put you over (then, unless the bargain's absolutely irresistible and you may get your desired balance again by selling something else that's good but not awesomely great value, it's proper to regretfully reject).  But such situations are very specific to an individual portfolio -- and that's not the context in which "hold" recommendations are most usually issued.

There may be tax issues, such as wanting to ensure a certain profit or loss is taken in a given tax year, or turning a capital gain into a long-term one -- but that's even more specific and out of the context in which "hold" assessments are pronounced by analysts and other Solons.

I think that "Hold" is just, at some level, an institutionalization of human defects like inertia (AKA laziness: it's microscopically less effort to not trade than to trade!-) and the "Endowment Effect" (what I already own magically becomes worth more just because I own it, which makes it special -- aka "Divestiture Aversion", and one of Thaler's key contributions to the field of behavioral economics).  Except, of course, where "hold" is used as an euphemism for "sell, but I can't use the `Sell` word because then I, as an analyst, would be shunned and cut off by the management of this company which I need to keep covering because that's my job"!-)

I was happy to finally hear somebody agreeing with me, after all these years -- specifically, very happy because he "somebody" is the manager of a fixed-fee advisory hedge-fund-like service I've just joined, "Motley Fool Alpha".  The way he put it was "if a position is worth being held, it's worth being initiated anew. To think/act otherwise, is slightly irrational" -- hear, hear!

If Yoda was an investor, he'd no doubt put it something like I used for this post's subject...: "Own, or own not: there is no 'hold'"!-)


  1. About "holding" i think u are underestimating the opportunity cost of the time&effort needed to continuosly re-evaluate the "opportunities that Mr Market presents to u".

    Basically the "Hold" label means just that: conditions didnt modify enough to justify reassessing your position in that stock/bond/whatever; if u thought it was a sell before it still is, if you thought it was a buy... then it still is.

  2. Ciao Lucio,

    I don't think your interpretation of the words can be correct. If it were, then what would it mean when an analyst moves a stock from his previous assessment of "Buy" to a new one of "Hold"? Per your interpretation, it means "it was previously worth buying, now, instead, it's worth buying": i.e., such a move would be utterly and totally meaningless -- not a move at all!-)

    Nope, what "Hold" means (theoretically) is "don't change your position", i.e., "if you bought is a buy, if you didn't it's not worth buying" (which also makes no sense of course, except when trading costs are very high). In practice of course it tends to mean "it's a Sell but it's not diplomatic to say that and make the company our enemy" (except for a few services of high integrity like S&P, "Sell" has almost disappeared from analysts' vocabularies;-).

    And none of this is connected with "do I spend the time and energy to reassess the firm at this time" -- analysts are always doing such ongoing reassessment anyway, it is, after all, their JOB; an investor either trusts an analyst/advisor blindly (high trust-costs, agency risks) or re-does his or her own due diligence in every case -- why would an investor trust the analyst's assertion "it's not worth your time to study this" any more (or less) than the assertion "buy some" or "sell what you own"?-)