For many investors, there are two types of time horizons: short-term and long-term. How individuals define these terms varies greatly. Short-term investments may last just several minutes, to several months. On the other hand, long-term investments could last up to several decades. As with many things in finance, the holding period of an investment greatly depends on the situation of the investor. A young student can afford to have money stashed away for several decades, whereas an older individual may need the money within one year. Although there is no correct way to invest money, there are certain benefits associated with the two which should be used to compliment an investors financial situation.
The word trading gets thrown around quite a bit, which implies an active approach to investing. That is, constantly entering and exiting positions to generate returns. Investors are hearing more about high frequency trading, which takes short-term investments to a whole new level – investments literally last several seconds, if that. For individuals with limited time at their disposal, short-term investments are typically favorable. In certain markets, the short-term nature of an investment may act to mitigate some risks.
Additionally, there are some factors which place short-term investors (in the U.S., at least) at a significant disadvantage over their peers in it for the long haul. Among these factors is capital gains taxes, which is split into short-term (under 1 year) and long-term (over 1 year). The capital gains tax rate for short-term investors is considerably higher than long-term investments, forcing the short-term investor to produce higher pre-tax returns.
Yet even investing prodigies such as Warren Buffet highlight that trying to time the market often results in poor performance. Of course, there are exceptions where frequent traders make incredible returns. However, in the long run the stock market tends to drift upwards together with inflation, providing a good annual return to those who are patient. On top of this, the timing of an investment is a much less important aspect when looking at the big picture. Investors are constantly trying to predict when the next market crash will occur, yet there have been studies which indicate more money is lost worrying about market crashes than in market crashes themselves. Unfortunately, an investor nearing retirement does not have time on their side; being able to stash away their money for decades is no longer reasonable.
With all that said, long-term investing generally has more benefits, as opposed to short-term investing which is inherently at a disadvantage. Despite this, not everyone can take advantage of long-term investing, and some may be forced to take a short-term approach. Investors should be aware of the pros and cons of both types of holding periods and make decisions based on their personal needs. Keeping these key points in mind, investors of all ages should be able to make informed investments which provide them with the best return appropriate for their situations.
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