There are many misconceptions floating around about investing and the stock market in general. Most of them will separate you from your hard-earned money, which is why I wanted to talk about four very prevalent myths and why you shouldn’t believe them. Let’s dive right in:
Myth: What goes up must come down. Though this may be true when discussing gravity, it certainly doesn’t apply to the stock market. That’s not to say that stocks never undergo a correction, but my point is that stock price is a reflection of the company. If it’s a great firm run by an outstanding leadership team, there’s no inherent reason why the stock won't keep going up.
I’d also say the opposite is also true. Many people believe that when a stock goes down, it “must” go back up at some point. Not true. I see people make the wrong assumption that a stock trading near a 52-week low is a good buy, strictly because it’s at a low. This is a bad assumption that you shouldn’t make. As the old Wall Street adage states, “Those who try to catch a falling knife only get hurt.”
Myth: Investing in Stocks Is Just Like Gambling. Gambling is a game that takes money from a loser and gives it to a winner –no value is ever created during the gambling process. Some people do hit the jackpot occasionally, but those people are playing the odds. In addition, when you gamble, the odds are stacked against you; that’s why casinos are such profitable businesses!
Investing, on the other hand, is not a game. It’s not necessarily glitzy and it doesn’t usually make you rich quickly. It can make you rich, but usually, that’s after 20-30 years of a solid investment strategy.
Business conditions are constantly changing, which in turn means that the future earnings of a company are also always changing; this is why stock prices fluctuate. Investors are continually monitoring these conditions and assessing the profit that will be left over for shareholders – in no way are investors playing the odds!
Warren Buffett once set up a casino in his own home to teach his kids a lesson. He says, “I bought a slot machine a long time ago and put it on the 3rd floor of my house. I could then give my children any allowance they wanted, as long as it was in dimes, and I'd have it all back by nightfall. I wanted to teach them a good lesson. My slot machine had a terrible payout ratio, by the way.”
Myth: Forecasts are always right. The major problem with stock market forecasting is that they are not always right. Pretty insightful, huh? All joking aside I’m not aware of any market forecaster or commentator who is consistently able to predict the future of the market. No disrespect to any market forecasters, but throw enough darts at a dartboard, and you’re bound to hit a bulls-eye at some point.
Peter Lynch, American investor, philanthropist, and one-time mutual fund rock star said “Thousands of experts study overbought indicators, head-and-shoulder patterns, put-call ratios, the Fed’s policy on Money Supply…and they can’t predict markets with any useful consistency, any more than the gizzard squeezers could tell the Roman emperors when the Huns would attack.”
John Kenneth Galbraith, the iconoclastic economist, said: “The function of economic forecasting is to make astrology look respectable.”
Lastly, from Warren Buffet’s mouth “I make no attempt to forecast the market—my efforts are devoted to finding undervalued securities.”
Myth: I can time the market. The myth that someone can consistently time the market by buying low and selling high is just not true and can be quite detrimental to your portfolio. The stock market is not always predictable and can actually appear relatively random at times.
Consider the October 1987 market crash (Black Monday) where the U.S. stock market, as well as the international stock markets, fell 20% or more in a single day. Subsequent analysis done by Robert Shiller, the Nobel Prize winning economist, based on surveying investors, suggested that the decline was due to investor psychology and did not have an obvious external cause.
Says John “Jack “Bogle, founder and retired chief executive of The Vanguard Group, “The idea that a bell rings to signal when to get into or out of the stock market is simply not credible. After nearly 50 years in this business, I don’t know anybody who has done it successfully and consistently. I don’t even know anybody who knows anybody who has.”
Questions about your wealth-building strategy? Don’t hesitate to contact me.