1. Buy and hold of individual stocks seems like suicide. Companies go through a natural lifecycle where they have inception, growth, maturity, then decline. It's very difficult to identify which stocks are going to become the next Apple during the inception phase so most of the time you will be selecting stocks that are well into growth / maturity phase. And what will naturally happen is that some of these stocks will eventually be overtaken by a new company that does things better, will fall apart due to incompetence, or some kind of accounting scandal, lawsuit, etc. Picking the index fund takes care of this for you as you aren't beholden to a single company and they get rid of the losers over time.
2. If you are using the buy and hold strategy you won't have much new money to invest in startups / small caps which have a lot more growth left. Your portfolio will age and decline.
Therefore, to keep up with new technology, individual stock pickers need to adjust their portfolio over time, and I have extreme doubt that anyone can operate cheaper than the Vanguard S&P 500 index fund.
I agree that it's not easy. As for your points:
1) You don't need to find the next apple to do really well, total market indices have a very small slice devoted to the apples and netflix and pricelines anyways - if you had one home depot, or starbucks, or walmart, in your portfolio, just one, it really drags up the rest of your portfolios. An example is the "dividend aristocrats" in 1989. While I would never invest based only on dividend records, the thought experiment turned out to be very interesting. Here's a post from almost a year ago:
Here's a quick and dirty calculation of $1000 investment per 1989 Dividend Aristocrat starting January 2, 1990 and ending December 31, 2014 - populated using:
Dividend Aristocrat list: http://www.suredividend.com/25-year-review-of-dividend-aristocrats-why-companies-fell-off-the-list/
Return calculation (dividend reinvested) - this could have errors, I haven't backtested, but seems to be pretty accurate: longrundata.com
For firms that were acquired or no longer exist, I assume total loss of principal, even though this isn't what actually happened:
Symbol Return Ending Value
K 8.41% $7,543
PH 13.99% $26,465
BAX 11.12% $13,986
FPL/NEE 12.04% $17,179
IFF 8.95% $8,536
DOV 11.36% $14,746
EMR 10.41% $11,914
JNJ 13.58% $24,179
KO 11.26% $14,407
LOW 20.06% $96,736
MMM 11.83% $16,404
PG 12.34% $18,376
CL 14.46% $29,310
GPC 10.82% $13,052
MAS 5.46% $3,782
TMK 10.03% $10,929
CSR 0.00% $-
HI 0.00% $-
RBD 0.00% $-
WLA 0.00% $-
AMP 0.00% $-
AHP 0.00% $-
LDG 0.00% $-
WIN 0.00% $-
TXU 0.00% $-
NSI 0.00% $-
Total $26,000 $327,543
11.13%
You end up with $327.5k on a $26k investment (with Lowe's doing the heavy lifting) - I don't have the numbers for SP500/VTSAX going back to 1990, but 11.13% with assumed total principal loss on 10/26 holdings in the index would be acceptable to me
And keep in mind, total return would actually probably be much higher because you would have received cash on the companies in the list that were acquired or went private, such as CSR, HI, RBD, WLA, AMP, and TXU
I crossed out a section from the quote - VFINX from 1990 through 12/31/14 returned $246,859.48, for 9.42%. Even though you didn't have any "superstars" per se, one star (Lowe's) compounding at 20% a year for 25 years dragged your total portfolio return up to an index beating 11.13% (at the lower range of an estimate since we assume no recovery of capital from the companies that were acquired) even though 10/26 holdings were assumed to have gone "bankrupt". It's just the math of how portfolio returns work
I think your other point pertaining to takeovers and decline of companies has its heart in the right place, but again, in reality, this isn't what happens. Companies get acquired and you end up with the stock of the new company, or cash that you would redeploy. Joshua Kennon explains this with a lot more clarity than I am able to do so at this moment, so I'll direct you to his article:
http://www.joshuakennon.com/im-building-ghost-ship-portfolio-someone-sort-index-fund-steroids/ as well as this comment by him:
"I'd bet money 25 years from now the DJIA bought and held with no changes that had AT&T a part of it would do better than the DJIA index fund. The academic evidence on this sort of thing always shows the same pattern and I'm not sure I'd want to bet against it but you'd be shocked how many people just don't understand the math.
I mean, look at this blog post (http://dailyreckoning.com/a-better-way-than-buy-and-hold/), which took me less than a few seconds to find. He argues against buy and hold investing because, "Of all of the stocks that were part of the original Dow Jones Industrial Average, only General Electric is still a part of the index." Only it's complete nonsense.
American Cotton Oil? Yeah, that's now part of Unilever, one of the most profitable, successful investments of the past century.
American Tobacco Company? Sweet Lord it ended up becoming Fortune Brands, one of the most successful spin-off and compounding enterprises in the history of human civilization. It went through so many reorganizations and spin-offs that you ended up owning everything from home security systems to Jim Beam whiskey.
Distilling & Cattle Feeding Company? Yeah, that ended up part of British giant Hanson PLC before being spun-off as an independent business with a name change, and then taken private.
Chicago Gas Company? That was aquired by Peoples Energy, which later merged in Integrys Energy Group, which was acquired last year by Wisconsin Energy Corporation.
General Electric? Still around plus a bunch of spin-offs.
Laclede Gas Company? The largest natural gas company in my home state of Missouri. It may be a boring utility but in my lifetime, it's compounded at just shy of 9% assuming no dividends reinvested.
United States Rubber Company ended up finding its way into French blue chip Michelin.
National Lead? It's complicated but it is one of those situations like Eastman Kodak where you didn't lose money despite horrific losses on the surface if your family held it as part of the original index. The company itself, which worked on the atomic bomb for the government and was known for its Dutch Boy paints, paid out dividends and spun-off its Baroid division, which is now part of Halliburton.
North American Company? That was broken up by the SEC, and permitted by the Supreme Court decision in 1946 thanks to the earlier-enacted PUHCA, shattering a public utility empire that was straight out of the gilded age; a sort of Standard Oil of electric companies operating an incredible network of subsidiaries that spanned the country.
Tennessee Coal, Iron, and Railroad Company found its way into U.S. Steel.
U.S. Leather Company has the distinction of being the only original Dow component that went into liquidation. It final reorganization involved a distribution of cash and a one-for-one share exchange for Keta Gas & Oil Corporation, which was subsequently abused by a scoundrel named Lowell Birell, who hid his misdeeds in the financial statements as a sort of front. So, yes, this one was largely a failure.
Historically, you did very well. Of course, everyone now ignores the huge portfolio of shares you inherit spanning multiple continents and currencies because ... face it ... people are lazy. They just want to pull up a quote and get a quick answer but that's not how the real world works."2) The no new money part is true if you're not in the accumulation stage, but how many of the posters here have no cash streams coming in? Even the ones that are FI have rents or dividends pouring in. The owner of this website is generating 400k a year in ad/affiliate revenue!!! This is what I mean when I constantly say separate the vehicle from the underlying holdings. Even if all you own when you are FI is VTSAX/VTI or some other broad market index, you're getting cash streams from all of the underlying companies you are holdings. Same for a individual stock portfolio constructed carefully and rationally over 30 years. Even if you started with all small caps/fast growers that weren't paying a dividend, at some point, the ROI on new projects isn't as good for shareholders as return of capital via cash dividends or buybacks - you can see evidence of this with Apple by the way, they've run out of new projects to invest in so they've recently started paying dividends. Berkshire, when Warren passes, will most likely also institute some sort of capital return to shareholders.
Good comment, thanks for the discussion