Here’s What You Should Be Doing Instead

“The Coffee Can portfolio concept harkens back to the Old American West, when people put their valuable possessions in a coffee can and kept it under-the mattress.” - Robert Kirby

Don’t miss Part 1 of this article right here!

The strategy is simple enough.

Buy good or interesting-looking stocks. Hold them. Never sell.

Last week, we saw what happened to one dead man’s portfolio after decades of following this simple strategy.

His secret wealth (which his wife knew nothing about by the way) ballooned to an obscene amount.

There are some intuitive benefits to investing this way — according to what wealth manager Robert Kirby called the Coffee Can Strategy.

• The “Coffee Can” strategy involves no repeated transaction costs.

• There are no administrative or wealth management costs.

• Stocks you own continue to compound uninterrupted, through good and bad market conditions.

But there’s another, more subtle benefit about “buy and hold” investing that I don’t think I’ve ever seen any other investment analyst write about…

Most people do not want to live glued to their computers, watching for subtle signs or alerts that it is time to buy or sell a stock.

Most people want to live their lives. Walk in parks. Drink coffee with friends. Travel, work, watch movies, cultivate hobbies, dance.

Speculating and trading is a trap, sucking hours away from more fulfilling experiences.

Investing is liberating. It can free you — both by getting you richer and by letting you live a life without having to constantly worry about your portfolios.

By investing with a “Coffee Can” strategy, you keep your worst instincts from hurting you.

You avoid the obsession with checking stock prices. You stop buying and selling over and over. And you never have to fret over the economy or any bad news.

This strategy forces you to extend your time horizon. And it prevents you from “putting anything in your coffee can” that you don’t think is a good 10- or 20-year bet.

Really, your success mostly depends on the types of assets you put in your “coffee can” and how much you pay for them.

If the “Coffee Can” Portfolio Strategy is So Great… Why Don’t More People Use It? And Why Don’t More Investment Managers Recommend It?

The benefits of the “Coffee Can” portfolio are obvious. But the actual execution is practically impossible for most retail and institutional investors.

On the institutional and investment advice side, the reasons are obvious. The “Coffee Can” portfolio goes against all the quantitative models that operate under the assumption that rebalancing a portfolio like an index fund is a necessity (it is not).

Also, many businesses do not want to offer a service that takes over 10 years to fulfill. As Kirby said in his original paper, “A decade is likely to exceed the career horizons of most corporate executives and pension fund administrators, to say nothing of most money managers.”

Plus, many brokers and investment managers charge per transaction. If an investment manager recommends a “Coffee Can” portfolio to everyone… they are essentially guaranteeing that they will not get paid again!

That’s institutional investors. But the reasons why regular people do not undertake this strategy are more psychological in nature.

Holding a stock for at least ten years is hard. Much can change. The ups and downs can be terrifying.

But more often, it’s not the drawdowns that scare people out of a stock. It’s the boredom.

Stocks that grow to enormous heights often go through long sideways and down periods. For example, Bank of NY Mellon (BK) was a long-term “100-bagger,” a stock that goes up over 10,000%. But from 1976 to 1981 and from 2000 to 2015? The stock went sideways.

Same is true for American Express (AXP): the stock was flat from 1985 to 1992. Even the great Berkshire-Hathaway (BRK.B) went nowhere between 1998 and 2005.

Holding a stock for 5 to 10 years that goes nowhere can be more terrifying than a crash. After all, people see other stocks moving higher while the one they own is moving nowhere.

Whether it’s a desire for control over their finances, or a feeling like they need to be doing something “active” to earn money, regular investors will often sell too soon.

And as I showed you before, this often leads to worse returns.

Now, this might seem counterintuitive, but stocks are usually (but not always) better suited for “Coffee Can” portfolios rather than index funds or ETFs.

Especially stocks with high cash flows, a history of rewarding shareholders, and steadily increasing dividends.

There are two main reasons stocks are generally better than index funds for a “Coffee Can” portfolio…

The first has to do with a hint I dropped earlier: outperforming portfolios typically had a lot of “value” stocks.

A value stock is any company that can be analyzed with traditional fundamental analysis and determined to be “cheap,” “fairly valued,” or “expensive.” A value investor will typically try to buy a stock they determine, using mathematical models, to be cheap or fairly valued.

This is opposed to “growth” stocks, which are companies that investors generally think will deliver better-than-average returns because of their future business potential.

Now, for reasons I’ll explain another day, I do not actually believe in the distinction between “value” and “growth” stocks.

For the purposes of the “Coffee Can” portfolio, however, I mentioned that a big determinant of success is how much you pay for a stock. It is much easier to determine the value of a stock as opposed to an overall index of stocks. Therefore, it is much easier to pay a better price for a stock than an index fund.

The other reason stocks are better than funds for this investing approach has to do with something Kirby wrote in his original paper, “Each surge in the popularity of index funds seems to follow a period during which the S&P 500 has been an excellent performer. Most index funds are not set up to avoid inferior performance.”

Basically, because index funds are constantly weighted and rebalanced, trimmed and repositioned, they end up losing out on one of the main features that make the “Coffee Can” strategy work so well…

The “Coffee Can” Strategy Works Because Risk Goes Down the Longer You Own a Stock

Most people think about investing like baseball.

Each stock trade is like stepping up to the plate for an “at bat.” Each buy is a swing. Each loss is a strikeout. More conservative players try to aim for “base hits.” More aggressive players try to aim for “home runs.”

In baseball, for every “at bat,” there is a finite result.

But stocks are not really like that, if you’re an investor.

Jeff Bezos, the CEO of Amazon, one of the best-performing stocks of all time, put it this way in his 1997 annual shareholders’ letter:

“We all know that if you swing for the fences, you're going to strike out a lot, but you're also going to hit some home runs. The difference between baseball and business, however, is that baseball has a truncated outcome distribution. When you swing, no matter how well you connect with the ball, the most runs you can get is four. In business, every once in a while, when you step up to the plate, you can score 1,000 runs. This long-tailed distribution of returns is why it's important to be bold. Big winners pay for so many experiments.”

What Bezos is saying, here, is that when you buy a stock, you have a huge huge number of different outcomes.

And the longer you hold a stock (or many stocks), the greater the number your possible outcomes can be.

That’s why, with one stock, it’s possible to hit a home-run so massive that you can retire forever.

Statistically, that is one of the many possible (if unlikely) outcomes.

To put this another way, stocks have a floor. They can only go so low ($0).

But stocks do not have a ceiling. They can theoretically go up to infinity.

And that is the main reason why a well diversified “Coffee Can” portfolio works so well. One big winner is more than enough to make up for lots of losers and laggards.

But there’s another reason why this diversity of potential outcomes gives investors a better chance when they never sell…

A diversified portfolio of stocks tends to become less risky the longer you hold it.

While the S&P 500 experienced annual losses in only 11 of the 47 years from 1975 to 2022, the spread of possible outcomes was extremely wide.

There were enormous one-year wins. But also enormous one-year losses.

But there is one simple strategy that has never, ever lost money in the overall stock market.

Not once over a 95 year period.

That’s strategy? You guessed it. The “Coffee Can” approach.

The brokerage company Schwab tested to see what would happen if you bought stocks on any random day between 1926 and 2021 and then held on for varying lengths of time.

As you can see in their findings, average annual total returns (returns with dividends reinvested) decreased the longer you held…

But more importantly, so did losses.

Whether looking at the best and worst case scenario, buying and holding became profitable after 20 years. Every time.

The goal in building wealth is to get richer every month and every year.

The best way to do that, historically, has been to buy, hold, and wait.

Mix that with compounding, which funnels stock income back into your assets…

Mix that with dollar-cost averaging, which allows you to lower your cost basis and increase the likelihood of profiting…

Mix that with the careful selection of stocks with qualities that have been proven to outperform…

And you have an extraordinarily powerful formula for building wealth.

A formula that simply involves a “Coffee Can,” and perhaps a little bit of patience or forgetfulness.