Buy and Hold: The Evidence for Regular Rebalancing

by: Tom Armistead

A simple study of the investment results achieved by changing the frequency of rebalancing points to the conclusion that Jim Cramer's "Buy and Homework" is the correct answer to the debate on buy and hold vs. trading.

Using a stock screener equipped with a backtester (from, two simple but effective value screens were backtested for a ten year period over a range of rebalancing frequencies. Four universes were tested - the S&P 500 and the Russel 1,000, 2,000 and 3,000. Here's a table of results (click to enlarge).

Click to enlarge

One thing is very clear - if you buy a portfolio of stocks and ignore it for a year your results will suffer. Set it and forget it doesn't work. Something bad will happen and no corrective action will be taken.

At the other end of the spectrum, any frequency greater than 3 months seems to be counter-productive.

Both the three month and six month rebalancing performed acceptably, although 3 months has a meaningful edge.

It's about Information

Financial results are reported quarterly. An investor who reviews new information as it becomes available and reassesses the relative value of a stock within its universe will achieve good results.

Because the relevant information doesn't change on a weekly basis, changing the portfolio on that kind of frequency is an exercise in futility. Distracted by noise in the price levels, the hypervigilant investor diligently sets himself up for repetitious small losses as prices snap back. There are also trading costs and slippage to consider.

Other Conclusions

It's worth noting that the size of the universe selected has a meaningful effect on reported results. All other things being equal, the larger the universe a strategy has to work on, the better the performance. Small caps outperformed during the past decade, which influences the results. I would resist the urge to switch frequently between small or microcap stocks without doing a thorough due diligence.

The strategies selected reflect a fundamental value oriented approach, fortified (with the wisdom of hindsight) by common sense criteria directed at ensuring survivability. A $100 portfolio invested in the S&P 500 increased to $110 over the same 10 year period. The case for the strategies tested is reinforced by their performance within multiple universes.

Based on this evidence, I plan to continue value based investing, updating my opinions on stocks I follow on a quarterly basis, as financial results are recieved.

Charting the Results

Here's a chart of the ten year backtest highlighted in yellow on the table above (click to enlarge):

Click to enlarge

The strategy stayed fully invested throughout the entire lost decade, and is well above its pre-crisis highwater mark. This is encouraging: an investor who pursues a consistent value strategy, pays due attention to survivability considerations, and monitors quarterly results can achieve good results.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.