Investing can be done over a variety of timeframes and holding securities long-term is a popular strategy. This guide to long-term investing will outline the basics of this strategy, how it compares to short-term trading, and how you do it.
So, if the prospect of buying and holding assets for months or years sounds interesting, read more for our guide to long-term investing.
What is long-term investing?
Long-term investing, also known as position trading, is when you hold a position for an extended time, usually for months or years. There aren’t any strict guidelines on how long you have to hold a security for it to be classified as a long-term investment. For example, once you’ve held something for two months, this doesn’t automatically make it a long-term hold.
Instead of putting definitive timelines on investments, it’s more useful to consider the context. To do this, you need to look at the securities you’re investing in. For example, foreign exchange trading (forex)is more high-paced than stock trading. This is because forex prices tend to be more volatile.
So, forex traders typically work on daily, hourly, and minute-by-minute timelines, i.e. they may open and close positions multiple times in a five-minute period. The price of a stockdoesn’t usually change as quickly over a period of time as forex. Stock traders tend to focus on daily and weekly movements.
From this, a long-term investment in forex could be classed as holding a currency pair for consecutive weeks. In stock investing, a long-term position might last for several months or years. Thus, we can say that long-term investing is when you hold a security for an extended time, beyond the average.
So, if forex is a day-trading activity and you hold a position for three weeks, that could be considered beyond the average. If people usually hold stocks for a few weeks and you keep a position for one year, that’s a long-term investment.
It’s also important to think in general terms. That’s why we say position trading is when you hold a security for months or years. However, when you get into specifics, context matters, and you need to think about the securities you’re investing in.
What is the goal of long-term investing?
Investors hold long-term positions because they believe the security’s value will increase over time. Let’s take a real-world example to illustrate this point. People invest in classic cars because they believe the asset has an inherent value that will push up the price.
Rarity, age and desirability contribute to this inherent value. The older a classic car gets, the rarer it is and, to some people, the more desirable it is. Of course, there are other factors to consider, such as the car’s condition and the market. However, it’s the car’s fundamentals that long-term investors consider first.
This is the same as a long-term investor buying stocks. They’ll assess the fundamentals of a company, what it offers, its market position/potential, and its financials. If these qualities suggest it will grow over time, it could be worth buying and holding stock. Again, present variables, such as market conditions, are also important. However, a lot of weight is given to the company’s fundamentals when a trader assesses its potential.
Now, it’s also possible to hold long-term short positions. A short position in investing is where you’re speculating that a security’s value will decrease. You can hold a position like this for a long period of time. However, this can be a risky strategy because of the potential losses you can incur with short positions. Therefore, it’s not as common to see this strategy.
As a retail trader, it’s usually better to see long-term investing as a strategy for holding positions on securities you think will increase in value.
Long-term investing vs. short-term trading
Another useful way to define long-term investing is to outline what it’s not. We can do this by comparing it to short-term trading and the ways people typically use this strategy. For context, short-term trading involves opening and closing positions multiple times per hour/day/few days.
Basically, you never hold a security for an extended time because the ultimate aim is to capitalise on short-term price fluctuations.
Because of this, short-term traders, such as day traders, will use contracts for difference (CFDs) because it gives them the flexibility to go long (profit when prices increase) or short (profit when prices decrease).
Short-term trading can be a riskier way of playing the financial markets because you’re aiming to predict swings before they happen, i.e., you’re trying to get ahead of the curve. However, if you get it right, there are profits to be made.
Now we’ve given you a basic definition of short-term trading. Here’s how it compares to long-term investing:
| Long-Term Investing | Short-Term Trading | |
|---|---|---|
| Analytics Used | Fundamental analysis – long-term investors want to know the inherent qualities of a security. This allows them to judge how its value could mature. The ultimate goal of a long-term investment is to hold an asset because you believe its value will increase. Fundamental analysis can help you determine this. | Technical analysis – the focus of short-term traders is price fluctuations. They don’t necessarily care about a security’s fundamental qualities or value. They want to know what the market conditions are, recent price movements, and what the price is about to do. |
| Cost Considerations | Paying commissions and fees isn’t a major consideration for long-term investors because you make one order and hold it. | Short-term traders have to be mindful of administrative costs. Brokers charge fees/commissions on each order. Therefore, you have to take this into account if you’re opening and closing multiple positions per hour/day. |
| Risk. Vs Return Strategy | Long-term investing can be a low-risk strategy because the aim is to realise a profit over time. Long-term investors ignore short-term swings and simply focus on whether the security will increase in value over time. | Short-term traders are mainly concerned with making quick gains by exploiting price movements. The aim is to make moves as prices swing/just before prices swing so you capitalise on the changes. This can be tricky and potentially risky. A lot of trades could go wrong. However, because you’re making multiple trades over a short period, the goal is to have more positive results than negative ones, so you make a net profit. |
| Assets Traded | Long-term investors usually focus more on stocks, bonds, commodities, and indices as they give you access to assets that tend to mature over time. | Short-term traders focus on markets where prices can change quickly, such as forex. In recent years, cryptocurrencies have also become popular short-term holds. However, it’s also possible to use a short-term strategy for stocks, indices, and commodities (e.g. oil prices). |
The role of fundamental analysis in long-term investing
We’ve said that fundamental analysis is an important weapon in the long-term investor's arsenal, but what does that mean? Fundamental analysis is a strategy that aims to determine the intrinsic value of an asset. Doing this requires an investor to review financial statements, price trends, and industry trends.
For example, if you’re conducting fundamental analysis on Amazon stock, you’d first look at the company’s revenue reports. Public companies are required by law to publish their financial results, complete with commentary and forecasts every three months (quarters). Annual reports are also published with quarterly reports.
The information in these reports is used to assess the financial strength of a company and its business practices. If Amazon’s quarterly earnings reports show consecutive revenue increases, that’s a potentially positive sign.
You can also assess what the company is doing with its revenue. How much is being reinvested? Is it building innovations or venturing into new markets? How much money is being paid in dividends?
These things matter because they can influence how successful a company is. On top of these intrinsic qualities, it’s important to consider the whole market. For example, if the retail industry is booming, Amazon is likely to be in a strong position. Conversely, if there’s a recession, Amazon stock could suffer. Considering the external conditions should be secondary.
If the company’s fundamentals are strong, then it should be able to ride the ups and downs. That’s what fundamental analysis aims to discover. If the company’s inherent qualities are solid, it could be a good long-term investment because its value can increase, regardless of market swings.
What securities are best to invest inlong term?
It’s possible to hold any security for a long time. However, some are more suited to this investing strategy than others. The securities long-term investors tend to focus on are:
- Stocks
- ETFs
- Commodities
- Futures
- Bonds
Long-term investingstrategies
We know that long-term investing is about analysing your options, choosing securities you believe will increase in value and holding for an extended period of time. That’s the basic strategy, but you can’t allow your portfolio to stagnate. Long-term investors can and should close existing positions and open new ones if things aren’t going well.
Doing this requires you to have a diverse portfolio. You could focus on stocks if that’s your preference. You can hold stocks in a single company if that’s your preference. However, long-term investors will always consider holding multiple securities at once.
This could be holding stocks in multiple companies. It could mean holding stocks, some commodities, and having an interest in a few indices.
There are two reasons to diversify:
- A diverse portfolio allows you to hedge. There will be times when some securities are making a profit, and some aren’t. A diverse portfolio can help you in these times if the profitable securities are making enough of a profit to cancel out the losses incurred by other securities. In simple terms, you’re spreading your risk.
- A diverse portfolio allows you to move in and out of positions. When you’ve got a variety of securities, you can assess your portfolio and make adjustments as required. If one security isn’t performing as well as the others, you can swap it for something else. When you hold one security, all of your risk is tied up in it and that can make it harder to change when things aren’t going well. With multiple securities, you’re not necessarily as emotionally or financially invested in a single one and that makes it easier to remove from your portfolio.
Long-term investing can be a profitable way to approach the financial markets. There are risks with any investing strategy, regardless of whether you hold assets for long or short periods of time. However, with the right analysis and not putting in more money than you can afford, there is potential.
The goal is to find securities you believe have inherent value and can hopefully also increase in value and weather any storms. If you can stick to your beliefs and not allow swings to deter you from a long-term goal, long term investing could be the investing strategy for you.
