Investing is one of the few areas of life where greater activity does not necessarily equate to greater success. For example, an investor can outperform their peers even if they make a significantly lower number of transactions each year.
In my view, this point is particularly pertinent at the present time. Today's rich stock market valuations could mean that being less active and waiting for buying opportunities leads to higher returns in the long run.
Waiting for buying opportunities
The stock market's surge since its March 2020 lows has propelled it to record highs. However, history suggests that recent gains will fail to persist in the long run. After all, the time between bear markets has averaged around 3.5 years in the past. While this does not mean a bear market is imminent, there may be better opportunities to buy undervalued shares further down the line.
This viewpoint is similar to that espoused by Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial) chairman, Warren Buffett (Trades, Portfolio). He has been known to wait for years to buy high-quality companies when they trade at attractive prices. As he previously said:
"You do things when the opportunities come along. I've had periods in my life when I've had a bundle of ideas come along, and I've had long dry spells. If I get an idea next week, I'll do something. If not, I won't do a damn thing."
The benefits of waiting
Clearly, following Buffett's advice is easier said than done. Investors who sit on the sidelines during a bull market must combat the dual challenges of missing out on rising share prices and the low returns that are available via other assets, such as cash and bonds.
However, in my view, the short-term mental anguish from waiting for more attractive buying opportunities could be worth it in the long run. After all, the average bear market decline is over a third. There have also been a great many corrections in the past that have provided 10%+ declines in the stock market's price level. In doing so, they have created even more buying opportunities for long-term investors.
In addition, the stock market has more than doubled on average during its previous bull markets. Since they have always followed bear markets, investors who are prepared to wait for the next market decline could find their returns are greater when compared to buying after a market gain.
A practical perspective
Of course, trying to forecast when stock market valuations will decline is impossible. A wide range of factors can influence its performance, with many of them being highly unpredictable.
Therefore, instead of selling stocks en masse, it may be prudent to seek to hold cash where possible and maintain some exposure to equity markets. This may provide access to further growth in the current bull market, while allowing the financial flexibility required to buy undervalued stocks in the next market decline.
In the meantime, it may be prudent to build a list of companies and sectors that are attractive based on factors such as their financial positions and economic moats. Waiting for them to move lower in price may require a large amount of patience and discipline. However, history suggests that investors who are less active in bull markets may ultimately be rewarded in the long run.
Disclosure: The author has no position in any stocks mentioned.
Read more here:
- Howard Marks: Contrarian Investing Produces the Best Results
- Li Lu: Honesty Is the Best Investing Policy
- Why Warren Buffett's Views From the Tech Bubble Are Useful Today
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