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With just two weeks until the end of the year, it appears that major stock indices are going to end 2009 with some impressive gains. Unfortunately, most investors don’t begin their accounts in January and close them in December.  Investors who are in retirement or saving for retirement are in this for the long haul. In other words, a calendar-year view does not give an accurate picture of whether their investments are on track to meet their retirement objectives.

For many years, Wall Street has advocated the position that the best strategy for ordinary investors is to buy a diversified selection of stocks and then just hang on to them indefinitely.

Those who have followed my commentary for any length of time know that we believe this is the wrong approach for virtually all investors. The major flaw is that the person following a buy-and-hold philosophy never knows whether the market will be in a bull or bear stage when he eventually needs to cash out of those positions.

The chart below helps illustrate why buy-and-hold is not a good strategy. It shows the performance of the Dow Jones Industrials Average and the S&P 500 over the past 10 years. Notice if you had purchased an index fund for either of these 10 years ago, you would have less money in your account today.

Now let’s imagine that at some point during that 10-year period you needed to cash out your investment. Perhaps you needed the money for retirement. Perhaps you got laid off and had to dip into your retirement account prematurely. Or maybe someone got sick or injured and you needed the money for health care.

The green area I highlighted on the chart represents a 10% gain or loss from the original starting point in 1999. As you can see, at no point in the past 10 years does the S&P 500 exceed a 10% gain. The only time the DJIA exceeds that gain is a brief period during 2007 and 2008. On the other hand, there are many extended periods during this 10 years when both indices were well below a 10% loss.

The green area illustrates that if you had been forced to liquidate index fund positions during this 10-year period there is a good likelihood that you would have lost more than 10% and only a very slight possibility that you would have gained more than 10%. In early 2009, the S&P 500 was down more than 50% from December 1999. What if circumstances dictated that you were forced to cash out in March 2009? Your original investment would be worth less than half as much.

Also consider the overall volatility of these indices during this period. If you are trying to save money for retirement or to manage your assets during retirement, do you really want to see these types of swings in your account balance?

It is our view that the most critical factor in retirement planning is avoiding major losses that can devastate account values. And during the past 10 years, there have been many times when an investor following a buy-and-hold approach would have seen dramatic declines in his account.

So as the financial pundits talk about how much the major indices are up for this year, keep in mind that this year’s gain or loss is not where your focus should be. Instead, you need to be most concerned about where the market (and your account value) will be on the day you need your money. That is why it is important to follow an investment strategy that places a high emphasis on avoiding market risk.

F.S.