Topics: Day Trading, Selling, Forced Liquidation, Fear

As the meme-stonk adage goes: “You only lose when you sell.”

In simple terms, this is when an investor refuses to realize an investment loss by never selling.

As a friend of many meme-stonkers and crypto-bros, I’ve heard this saying many times.

Many stonk-sayings are rather silly… take for example the following:

• “Apes together strong”

• “The key to success is to buy high, sell low”

• “I’ve got diamond hands”

• “This stonk is going to the moon”

• “I’m going to yolo on some 0DTE options”

I feel like they are all fairly self-explanatory as to why they are outlandish. If you want further clarification as to why you should probably not use those terms, maybe chat with your financial advisor or reach out to me. I will absolutely be saying these, but only in my sarcastic jokes.

“You only lose when you sell”, on the other hand, is sometimes fairly insightful. First, let me set a quick backdrop.

Note: to generalize, when I use the term “sell”, I’m specifically referring to selling stonks for a purpose other than to reallocate your portfolio for financial planning purposes (i.e. you’re old and need to reduce exposure to stonks and increase exposure to bonds). This would then imply that “selling” is actively managing your portfolio to increase gains and reduce losses. When I use the phrase “day trade”, “actively manage”, or “sell”, I’m referring to this framework. There are strategies that involve a short-term perspective that I employ, such as interest rate hedging, derivatives, and trading the VIX; these represent a small portion of my total portfolio.

Why People Are No Bueno at Investing

Most people underperform the stonk market - this includes both professional and retail investors. Here is a chart I included in a previous article, for reference:

Can I get some F’s in the chat? This is not good.

That begs the question: “Why? Fees for investing are lower and there are fewer middlemen, but yet returns are still lower? Something doesn’t add up…”

You can look at some of my past writings to learn more about behavioral finance, fear, and the risk/return tradeoff.

But there’s a fascinating measurement that I haven’t talked much about: investor holding periods.

In Other Words, Hold My Hand

I find it ironic that people who say “you only lose when you sell” are typically meme-stonk, day training, crypto investors. It’s actually not half-bad advice. In fact, Frank Sinatra tried to give us similar advice…

“In other words, hold my hand”

I think Frank Sinatra used this phrase not to symbolize his affection for a specific individual, but rather as a metaphor to express his desire for investment accountability to his financial advisor. I imagine the conversation went something like this:

“Hey financial advisor, I want to day trade meme stonks even though I know this is bad for my portfolio. Can you help me to refrain from such behavior? In other words, hold my hand.”

He knew, as few of us do, that shorter investment time horizons can result in underperformance. I believe that he wanted to share these insights so that we wouldn’t make the mistake of day trading. The chart below visualizes the average holding period of investors since the early 1900s:

As the chart correctly notes, holding periods have fallen due to high-frequency trading (~50% of equity trading volume), as well as lower trading expenses, more short-term focus, and shorter company lifespan.

The most recent reading of the average investment holding period is ~10 months, though I’d argue that number is likely understated given the influence of high-frequency trading algorithms on that number (i.e. it’s probably higher for retail investors). However, I still believe that it’s a reasonable conclusion that holding periods have fallen. If you disagree, I’d encourage you to talk to a couple of people about their investment portfolios and how frequently they trade their stonks. From my experience, young investors are more likely to trade frequently, while older, more experienced investors are fine withstanding downturns and don’t trade as often.

“Okay Drake, what’s your point? Why is actively trading your stonk portfolios such a bad idea? All the big banks do it, why shouldn’t I?”

Welp, here are a few reasons:

• Higher taxes

• Poor market timing decisions

Life, Death, and Taxes

Let’s take a hypothetical portfolio of $100 and invest it in three portfolios over a 20-year horizon:

• Portfolio #1: ST portfolio generating 20% annual returns with annual ST capital gains tax of 25%.

• Portfolio #2: LT portfolio generating annual returns of 16% a year and not sold until after 20 years. When sold, capital gains face a 15% tax rate.

• Portfolio #3: LT portfolio generating annual returns of 20% a year and not sold until after 20 years. When sold, capital gains face a 15% tax rate.

Assuming no dividends, here is the hypothetical performance:

For more, see what QuickBooks has to say about it.

Buy High, Sell Low… Right?

“Wow Drake… I can’t believe you don’t actively manage or day trade your portfolio!”

Well, there’s a pretty good reason for that. Let’s take a look at what the SEC has to say about “day trading” / actively managing investments.

• “Be prepared to suffer severe financial losses.”

• “Day traders do not ‘invest’… (they) want to ride the momentum of the stock and get out… before it changes course. They do not know how the stock will move, they are hoping that it will move in one direction.”

• “Day trading is an extremely stressful and expensive full-time job.”

• “Day traders depend heavily on borrowing money or buying stocks on margin.”

• “Don’t believe claims of easy profits.”

• “Watch out for ‘hot tips’ and ‘expert advice’ from newsletters and websites catering to day traders.

• “Remember that ‘educational’ seminars, classes, and books about day trading may not be objective.”

“But Drake, investment banks day trade!”

Um… yeah. No.

They do high-frequency trading, which involves no research of a company’s fundamental performance or growth prospects (really hoping that your research does include research of those things), but rather seeks to take advantage of variations of supply and demand by providing liquidity (and profiting from providing this liquidity). It increases liquidity and stable bid-ask spreads during normal periods, but can result in higher volatility during abnormal times.

Firms that do employ short-term strategies still employ some form of an algorithm.

So, while you’re looking at the recent trends on a chart, professional investors’ algorithms are performing tons of statistical analysis on market pricing, order books, volume, etc. You are playing checkers, while they are playing chess. You’re drinking water, while they’re drinking an iced, spiced, dirty chai latte. You’re driving an RC car, while they’re driving a Bugatti. There’s a noticeable difference. Don’t challenge them at their own game.

Most trading platforms say that trading is “free”, but what that actually means is that there are no explicit costs; there are high implicit costs associated with frequent trading via bid-ask spreads (bid-ask spreads are the implicit cost of executing a trade in financial markets).

I think I’ve proved my point, but if you don’t believe me, check this out. Also, the Young Money blog is written by a guy who day traded and made crazy paper gains, just to suffer severe losses shortly after; as you can imagine, he has some solid insight on the matter.

Conclusion

“You only sell when you lose.”

“Drake… you messed up the phrase. Plz fix.”

Nope. That was intentional.

There’s something to be said about riding out your winners and cutting your losers (i.e. momentum trading), but why do you sell? Are you selling because a 10% reduction in the price of investment made you completely lose confidence in your investment strategy? Are you selling because you’re afraid of deep losses? Or are you selling because the fundamentals of the company just took a deep L or because you are approaching retirement and need to reallocate your portfolio or because you have large impending cash flow requirements?

There is a big difference.

Perhaps you’re just selling because you keep losing. Just a thought…

So I’ll just ask the question: Do you only sell when the market says you lose? Or do you sell when your investment rationale or strategy has changed or been wrong?

One is reactive, one is proactive. One is emotional, one is disciplined. One is feelings-based, and one is principles-based.

If you’re regularly selling your investments, just to buy back in shortly thereafter when “things are looking more attractive”, then I’d argue that you’re probably losing.

This isn’t advice to hold stonks that are bad or that are doing extremely poorly, but it is an encouragement to think about why you are selling.

Takeaways

• By day trading your portfolio, your returns may be higher, but your required rate of return increases because you face a higher tax amount. You also face higher expenses due to higher costs from bid-ask spreads.

• By actively managing your portfolio, you’re less likely to generate superior returns (do you think you can beat people who do that for a living with millions of dollars in support and equipment?)

• By actively managing your portfolio, you have to spend more time watching the stonk market and have less time to invest in your career, your relationships, and your development.

• Don’t play chess with a chess grandmaster, maybe stick with checkers or tic tac toe (i.e. maybe focus on mastering your management of a long-term ETF portfolio instead of day trading).

• There’s more to your life and financial situation than just maximizing the gross returns of your investment portfolio. Think about where you can maximize the investment of your time.

Barring a plethora of negative feedback from y’all, I’m going to share some specific stories on this in the next posts :)

Stay intelligent, investors. W