Since you have clicked on this link, it is safe to assume that you know the names of Warren Buffet, Peter Lynch, John Templeton, or Rakesh Jhunjhunwala. And, you also know what is common among them. Yes! You are right! They are all long-term investors who made fortunes buying and selling high-growth stocks.
Their long term investment strategies have encouraged many investors worldwide to learn about the power of compounding. It’s no wonder then that long-term investing can expose you to great riches, provided you have the right approach.
As a capital markets investor, you would feel glad to know that ever since the Sensex came into existence, no one with an investment horizon of 15 years or more has ever lost money.
Reduce the investment term to 10 years, and the probability of losing your capital becomes 1 in 32. Reduce it further by a year, and the likelihood of losing money increases to 13 in 41. Hence, short-term investing is more prone to losses than long-term investments in stock market.
However, long-term investing has its share of risks as well. If you do not time your entry and exit properly, your returns might not be as per your expectations. For instance, while historically, one-year returns in Sensex range between -47% and 267%, the annualized returns come down to anywhere between 13% and 18% for a 30 year period.
The following sections discuss the pros and cons of long-term investing so you can decide whether you should go for it or not.
The Pros of Long-Term Investing
1. Make Money Consistently
If you look at the statistics, you would be convinced that long-term investments enable you to grow your capital much faster. For example, had you invested INR 10,000 in Sensex on 31st March 1979, the amount would have increased to INR 52,34,400 by 18th June 2021. Data demonstrates that the longer you stay invested, the better are the chances of capital appreciation.
Look around the capital markets, and you would see almost all asset classes, such as equity, ETFs, debt, money market instruments, commodity, etc., grow significantly when you stay invested for a long term.
The key here is to identify financial instruments that can generate gravity-defying profits due to a solid business strategy. Remember, companies with strong management perform well in both trending and non-trending market conditions.
2. Tax Benefits
Generally, you need to pay taxes only when your investments fetch you a positive return. And, the long-term capital gains tax rate is much lower than the short-term capital gains tax rate. The long-term capital gains tax applies to investments over three years or 36 months. In contrast, short-term capital gains tax applies to investments under three years.
In India, the long-term capital gains tax is 10% for any amount above INR 1 lakh, and the short-term capital gains tax is 15% when the Securities Transaction Tax (STT) has been paid. Hence, holding on to shares or mutual fund units for a longer term enables you to save taxes.
Considering the fact that not more than 1% of all traders make profits in the market, it is safe to assume that a long-term investment strategy not only enables tax-saving but also minimizes the risks of trading.
3. Time Is Never an Issue
When you invest for the short term, you need to monitor your investments often. Since the market is a place of wide swings and volatility, not withdrawing the amount at the correct time may lead to a capital loss. In contrast, long-term investments are relatively risk-free. Therefore, you may not need to follow it regularly.
Long-term equity investments are often considered a foolproof way to get high returns. You can choose an investment portfolio according to your investment horizon and withdraw whenever you want. It’s always good to pick baskets of stocks with a steady record of delivering high annualized returns, year after year.
Read more: Best Investment Options to look out
The Cons of Long-Term Investing
1. Wrong Selection
Picking the best investment products, such as stocks, requires a strong observation power and an ability to foresee the future. There is no assurance that a stock or an index is likely to perform the way it has performed so far. In such cases, selecting a portfolio of stocks across diverse sectors may help you beat the volatility and get consistent returns.
For example, you may choose stocks that are likely to contribute to the government’s renewed spendings on infrastructure. Investing time in finding a high-growth financial product is more vital than investing itself.
2. Stop Following
Since you are a long-term investor, you may not monitor your investments often. However, if you require the money urgently and revisit the portfolio, you may or may not like the results. Hence, even when you rely on long-term investments, it is prudent to analyze your portfolio periodically.
Monitoring your investment gives you more authority over its performance, and you can always take steps to switch to get higher returns. Informed investors diversify their portfolios across equity and debt products. This hedging strategy ensures that they never return empty-handed from the markets.
3. Mentally Weak
Long-term investments can be remunerative when you have the courage to withstand shocks. No investor wants to endure losses, and hence, they get panicky on hearing the news of a market crash. This may prompt them to sell or move positions in a hurry, accelerating the chances of further loss.
If you want to get the best benefits of a long-term investment, remember that downturns are as much a part of the market cycle as upturns.
Long-term investments are clearly good for your wallet! They take away the pain of trading regularly since it can be risky. Investing for the long term enables you to enjoy the power of compounding.
The best investors are mostly long-term investors who do not consider the market a place for gambling or betting; instead, they choose investment products systematically and stay until their investment objectives are fulfilled.