If there’s one thing the financial world will never run short on, it’s suggestions. No matter where you turn in this industry, you’ll find all the investing advice you could ever want.
Unfortunately, you’re bound to run into investing myths, too.
You don’t have to read Kiplinger or turn on CNBC to find your fair share of investment advice. Whether you turn on your local news or log into your favorite social media app, you’re bound to find someone trying to share a little money wisdom.
The problem: It’s not always easy to tell what’s true and what’s false. Sometimes it’s especially difficult because some wisdom has been parroted so often that it seems true – even if it’s based on misinformation or misperceptions.
To help you sort the noise from the truth, here are seven common investing myths that financial experts want to dispel. You’ve likely heard them before and might even believe them yourself, but the pros are here to tell you: Believe them no more.
Myth #1: You should pay off your debt before you start investing.
“Investors often view debt as bad and delay making investments until all debts are paid off,” says Katia Friend, managing director and head of client strategy at BNY Mellon Wealth Management.
But she says this isn’t always the best strategy.
While a common investing myth is that building a portfolio and repaying debt are mutually exclusive activities, the truth is, you can often get a better long-term return by doing both simultaneously.
The trick is to view repaying your debt as an investment, too.
Think of the interest rate on loans, credit card debt and other IOUs as the equivalent of the return you’d get in the stock market. Every dollar you pay off on a student loan with a 5% interest rate is the equivalent of earning a 5% return on that dollar if it were put in the stock market. This means any investment that could reasonably earn more than 5% annually would be a better place for your dollar than putting it toward your student loan – if it would earn less, paying off your student loans would be the better “investment.”
But it should go without saying: Don’t default on your debt in favor of investing. “Understanding your cash flow and one’s flexibility to pay down debt is important,” Friend says. So, always pay at least the minimum balance on any debt you carry; once you’ve met the minimum, you can start thinking about additional payments as investments.
Myth #2: You need to be rich to invest.
One common investing myth that eats at Josh Simpson, vice president of operations and investment adviser with Lake Advisory Group, is that only the super-wealthy can have skin in the stock market.
Multiple studies show that more than half of Americans invest in equities. The Federal Reserve’s most recent Survey of Consumer Finances (released in 2019) found that about 53% of families owned stock. A more recent Gallup poll, conducted in April 2022, found that number to be even higher, at 58%.
“Easily more than 50% of the working population is relying on the stock market for their retirement savings, which is way more than only the richest of the U.S. population,” Simpson says, adding that “most of those studies do not consider the numerous pension funds that are invested in the stock market, such as the California Teachers’ Pension Fund (CalSTRS), which used to be one of the largest stockholders in Tesla (TSLA).”
Why is this investing myth so pervasive, then?
Simpson says it has become a rallying point for certain politicians over the last decade. “When politicians constantly cry that the stock market only benefits the wealthiest among us and are not challenged to prove the validity of their statement, it creates a false narrative that can be very discouraging for a lot of people,” he says.
Instead of letting such misconceptions hold you back, invest in your retirement a little at a time with whatever you can afford, Simpson says. “Even if it is just $100 or $50 per month to start, it will all add up over time and help prepare you for a better future.”
Myth #3: Higher risk always leads to higher return.
“One major misconception about investing is the more risk you take, the higher your return,” says Dwain Phelps, founder and CEO of Phelps Financial Group.
While there is some basis for the notion that higher risk can lead to higher return, there’s more to generating returns than just piling on risk.
Risk in investing is commonly measured by volatility, or the degree to which the investment fluctuates in value. A more volatile investment is one that’s prone to larger swings – and those swings can go in either direction. So an investment that is simply more volatile might not necessarily yield a higher return if more of its price swings are due south, Phelps says.
Peter Hardy, vice president and client portfolio manager for American Century Investments, writes that data refuting the idea that high risk equals high reward has been around for decades.
“In 1972, economists Robert Haugen and James Heins provided evidence of the low-volatility anomaly. Based on data from 1926 to 1971, they concluded that ‘over the long run stock portfolios with lesser variance [volatility] in monthly returns have experienced greater average returns than their ‘riskier’ counterparts,'” he writes.
Instead of chasing risk in the hopes of higher returns, Phelps suggests investors focus on other important factors, such as valuation and the leadership and management of a company or a particular fund.
Myth #4: The more stocks or funds you own, the better diversified you are.
You’ve almost certainly been told that you should have a diversified portfolio, because diversification is one way to mitigate risk. That’s true to an extent. When you invest across a large number of stocks, bonds or other assets, there’s less chance that a plunge in any one holding will have a significant impact on your overall portfolio.
The trouble is that many investors have a misconception about what it means to be truly diversified.
Diversification is less a numbers game and more a character game. A large group of stocks from one sector offers less diversification than a smaller group of stocks from several sectors, says David Poole, head of U.S. consumer wealth management at Citi. For instance, if you own 100 technology companies, your entire portfolio depends on the success of one lone sector. But a portfolio of one tech company and one financial company would be more diversified because it’s exposed to not one, but two sectors.
The same holds true with funds. “Many people just pick a lot of funds because they feel it spreads them around,” says John Bergquist, managing member of financial consultancy Lift Financial. “While funds do generally give broad exposure to many companies in that sector, you might end up owning very similar funds, which will in turn own the same companies.”
You are no more diversified with five S&P 500 index funds than you are with only one. And owning funds with overlapping companies could even cost you more in the long run. “When each of them trades, you will end up paying more in transactional fees,” Bergquist says.
To be truly diversified, look for investments that tend to move in different directions. “The lower the correlation between the securities, the better the diversification effect,” Poole says. This will help smooth your investing journey by ensuring when some of your investments are down, others are up.
Myth #5: You can time the market.
While calmer heads constantly try to warn against it, one of the most persistent investing myths is that you can successfully time the market.
Yes, it’s possible to get lucky with a few serendipitous trades, but there’s no absolutely, positively certain way to know what the market (or even a single stock) will do, and when it will do it.
“Timing the market is much like predicting the future,” Bergquist says. “Even though there are many indicators of what could happen, no one knows the future.”
By the way: Timing the market successfully often requires you to catch lightning in a bottle not once, but twice. You have to know the perfect time to buy … and the perfect time to sell. But thanks to emotions, investors often end up botching both sides of the trade, entering at too-high values out of excitement, then selling low out of fear.
Indeed, BNY Mellon’s Friend says that many investors end up missing the market’s best-performing days in these situations – an ultimately costly mistake. Citing BNY research, she says missing just three of the best-performing days between Jan. 1, 2000, and March 13, 2020, could cost an investor 1.56 percentage points in average annual returns, she says. Missing 10 would cost 3.74 percentage points, and missing 25 of those days would result in 7.18 percentage points of annual underperformance on average.
A better approach? Do what institutions and professional managers do, Friend says: Hold diversified assets and stay invested through the ups and downs. “If you’re investing in a solid portfolio of solid companies, let today’s short-term volatility work itself out and hold on,” Bergquist says. “It will come around. It always has.”
Myth #6: You must constantly monitor the market to be a successful investor.
One of the most commonly cited barriers to investing is how much research is involved. Not only must you accomplish the difficult task of determining the right investments for you to begin with, but then you need to keep an eye on financial news and have stock charts on in the background so you can make good decisions at a moment’s notice.
If that sounds like a headache, it is – and it’s an unnecessary one to boot.
Investors can be quite successful with a set-it-and-forget-it mentality – in fact, hovering over your portfolio can do more harm than good. “It can be easy to overreact to market noise and miss the underlying trends or fundamental shifts in the market,” Citi’s Poole says. “In addition, excessive trading may lead to lower realized returns.”
He tells investors not to be too quick to react to new information. Instead, he suggests developing a solid rationale behind each investment decision and getting a qualified second opinion before acting.
Myth #7: ESG investing doesn’t really have an impact.
A common investing myth concerning environmental, social and governance (ESG) investing is that “the individual investor really can’t have an impact when investing in ESG funds or an ESG portfolio,” says Brian Presti, director of portfolio strategy at The Colony Group.
“Some people maintain that systemic issues require systemic solutions that an individual can’t contribute to; others assume ESG investing involves exclusionary screening which, while very important from a values alignment perspective, may not result in a tangible impact on corporate behavior or contribute to solving pressing societal challenges.”
But ESG investors can rejoice – it is possible to make an impact through your investments, even if you’re a relative minnow. Presti gives three examples of how you can have an impact as an individual investor:
- First, by investing in funds with ESG fund managers who actively engage with companies, you can support their work toward making positive and material change in corporate behavior and help solve real-world problems.
- “Second, thematic ESG funds allow people to invest proactively in companies providing tangible solutions to specific challenges such as energy or resource efficiency and gender equality,” Presti says.
- And third, you can choose ESG bond funds, which “invest in impact bonds that have a direct and measurable effect on economic development, affordable housing or decarbonization.”
An ideal ESG portfolio will incorporate all of these approaches, Presti says. “Unfortunately, by not appreciating the full scope of impact available, investors might be missing out on all three.”
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
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