Benefits of Holding Stocks for the Long Term

Investing in the stock market is a historically proven way to build wealth over the long term. This is because the strategy of holding stocks for the long term offers numerous advantages that can lead to significant financial rewards. In this article, we are going to explore some of the benefits of holding shares in a company for the long term and why patience and perseverance in the market yield substantial returns and help you achieve your financial goals.

What are the Advantages of Holding Stocks for the Long Term?

Investing in stocks over the long term involves holding shares of companies for extended periods ranging from a few years to a few decades. Most market experts suggest holding onto stocks for a minimum of at least five years to fully reap the benefits of long-term investment. Some of the advantages of holding stocks for an extended period are as follows: 

1. Reduced Impact of Short-Term Volatility

The stock market is prone to volatility and price fluctuations, especially in the short term. While this may be useful for short-term traders, investors may feel unsettled due to the increased price movements. 

However, holding stocks for the long term helps mitigate the impact of this volatility. Over extended periods, the ups and downs of the market tend to smooth out, leading to well-chosen stocks settling into an uptrend.

The price chart of the Nifty 50 index, which is one of India’s most-tracked market indices, is a good example of this phenomenon. When you closely examine the index’s price chart over a 10-year timeframe, you can spot numerous short-term dips and spikes. However, despite that, you can notice a clear upward trajectory, with the index growing substantially over the 10-year period.    

2. Compound Growth

One of the biggest advantages of holding stocks for the long term is the power of compound growth. When you invest in fundamentally strong shares over an extended period, you get to benefit from regular dividend distributions. Also, as companies mature, they are likely to increase their dividend payments over time. 

Reinvesting these dividends instead of cashing them out enables you to get additional shares. As you continue to do this consistently, your investments will grow substantially and fetch you even more dividends. Some companies may even choose to distribute bonus shares instead of cash dividends. These bonus share distributions will also lead to a significant increase in the value of your investment over time. 

3. Lower Transaction Costs

Trading involves the frequent buying and selling of shares, which incurs a host of transaction costs, ranging from brokerage fees to taxes. These transaction costs could potentially reduce the profits you make from the trades. However, by holding stocks for the long term, you can substantially reduce these costs. 

Here is an example to help you understand how long-term investing can help you save on transaction costs. Assume the total transaction cost per trade is Rs. 30. If you made around 100 trades in a year, you would have paid Rs. 3,000 in transaction costs alone. 

Alternatively, if you had made a single long-term investment in a stock, you would have only incurred a transaction cost of Rs. 30 for the entire year, saving you Rs. 2,970, which could have been used to purchase more shares. 

4. Potential for Higher Returns

One of the major benefits of holding shares for extended periods of time is the potential for higher returns. Historically, stocks have performed better than many other asset classes over the long run. Although past performance does not guarantee future results, long-term stock holding has time and time again proven to be an effective strategy for wealth accumulation.

For example, Reliance Industries Limited (RIL), one of India’s largest conglomerates, has delivered a return of 135.70% over a 5-year period from August 23, 2019, to August 19, 2024. Similarly, there are instances of many other stocks that have delivered returns similar to or even more than this over the same period.  

5. Tax Advantages

Tax savings are another crucial benefit of holding shares in a company over the long term. In the case of short-term capital gains (STCG), the base tax rate is 20%. Short-term capital gains are profits from assets with holding periods of less than 12 months. 

In the case of long-term capital gains (LTCG), on the other hand, the base rate of tax is much lower at just 12.5%. Long-term capital gains are profits from assets with holding periods of more than 12 months. Additionally, you also get to benefit from an exemption on LTCG. 

As per the provisions of the Income Tax Act, long-term capital gains of up to Rs. 1.25 lakh per financial year are exempt from tax entirely. This essentially means that you will be taxed only if the LTCG exceeds Rs. 1.25 lakh per financial year. Even then, the tax is levied only on the gains exceeding the exemption limit. 

As a long-term investor, you can save significantly on tax by holding shares of companies for extended periods.  

6. Benefit from Market Corrections

The stock market undergoes temporary corrections from time to time. Although these downturns can cause your investments to go down in value, they can also present excellent buying opportunities, especially if you have a long-term investment horizon. 

By holding stocks through downturns and potentially buying more at lower prices, you can position yourself for substantial gains when the market recovers. The recent major market correction fuelled by the COVID-19 pandemic is a good example of this. Investors who held onto their stocks or bought more during the dip saw their portfolios recover and even surpass previous highs within a year.   

Conclusion 

With this, you must now be aware of the various benefits of holding stocks for the long term. Now, it is important to understand that to make effective long-term investments, fundamental analysis is crucial. It is an analysis technique that focuses on examining a company’s fundamentals, such as its financial performance, management’s track record, and corporate governance, among others, to determine whether they are a good candidate for investment.

With fundamental analysis, you can easily unearth good-quality stocks with strong growth potential, which is crucial for long-term success. Research 360, a platform powered by Motilal Oswal, features a host of tools that can help you analyse stocks fundamentally. In addition to stock-specific financial analysis, you can also analyse the sector and the industry that the company operates in to get a better view of the company’s prospects.