Understanding the world of finance is hard enough without having to trip over the wide variety of myths strewn along the way. Throw in the opaque concepts and vocabulary associated with the markets and you can see why so many people fear investing or simply avoid it altogether. With stakes being so high — your life’s savings, as often as not — having to sift through outright falsehoods can be incredibly frustrating. It can also lead to some costly investing mistakes.
That’s why it’s important to take arms against a sea of misinformation and start striking down those oft-repeated adages that have no basis in fact. That’s right, it’s time for some of those old cliches about investing to die a sudden and final death before they poison another generation of investors.
So, take a look at these 25 common investing myths that need to finally be put to bed, and protect your portfolio for the long haul.
1. Stocks Are Riskier Than Bonds
It might be a popular belief that stocks are riskier than bonds, but it’s not true, said Scott Trench, vice president of operations at investment website BiggerPockets. However, it really depends on how you define “risk.” Stocks might be more volatile in the short term — what people are generally referring to when they call them riskier — but in the long run, they almost always generate bigger returns.
“For any investor with a long-term, 30-year-plus outlook, it is almost a statistical certainty that you will be less wealthy investing in bonds than in stocks,” he said. “It’s true that the price of stocks will likely fluctuate much more than bonds, as an asset class. However, the long-term growth of stocks far outstrips the long-term growth of bond investment returns.”
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2. Invest in a Target-Date Fund, and You’re Set
If you think it’s a solid plan to invest in a target-date fund, set it and forget it, and not need to worry about your investments again … think again. As your money grows, you’ll need to diversify more than a target-date fund can offer, said Nick Vail, co-founder and financial advisor with Integrity Wealth Advisors.
“Oftentimes, they don’t align properly with your goals as you age,” he said. “Also, your fund might be too aggressive or too conservative for you as time goes on. Are all investors alike? Do they all have the same risk tolerance? Of course not. TDFs have a place in investing, but they are not the be-all and end-all.”
3. Diversification Will Protect Your Portfolio
Although it’s important to diversify your portfolio, as a strategy, it comes with certain caveats.
“Allocating your money across too many stocks doesn’t work, because when the market drops, all stocks drop, but when an individual stock does well, you won’t have enough of it to affect your portfolio,” said Brian Lund, freelance financial journalist for TD Ameritrade’s The Ticker Tape and other publications.
Warren Buffett himself has said: “Diversification is protection against ignorance. It makes little sense if you know what you are doing.”
So diversification is ideal for a retirement investor or someone with only moderate investing knowledge, but it’s not a silver bullet. It doesn’t protect you from broad market downturns and it limits your upside from making a good call.
4. Whole Life Insurance Is an Investment
One investing strategy involves buying whole life insurance. Unlike term life insurance, which is designed to protect your dependents for a limited coverage period, whole life insurance is a permanent, tax-deferred policy offering lifelong value. Over time, the cash value of a whole life insurance policy grows at a guaranteed rate. However, don’t mistake it for a proper investment, said Kirk Chisholm, wealth manager at Innovative Advisory Group.
“I really hate this phrase because it is completely misleading,” he said. “The end result is that you bought yourself a very expensive form of insurance that you could have probably bought for 75 percent less. Furthermore, if it was an investment, then why wouldn’t some of the world’s smartest investment geniuses invest heavily in whole life insurance?”
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5. Avoid Market Fluctuations by Investing in Index Funds
A recent Fidelity survey found that 51 percent of investors believe index funds are more stable than actively managed funds. Meanwhile, a fifth of investors surveyed believes stock index funds can protect them from market fluctuations. However, both index and active stock funds carry market risk — meaning that returns follow the market.
“The average S&P 500 fund has experienced large swings in one-year performance, whether that fund is active or passive,” the Fidelity report noted.
6. It’s a Good Idea to Sell Stock Holdings on a Seasonal Basis
Some investors might buy into the myth that it’s beneficial to get out of stock holdings for a few months, in the anticipation that equities will be flat during that time period, said Mitch Tuchman, managing director of investment firm Rebalance.
“This belief is especially prevalent in the summer months — note the predictable pattern of ‘sell in May and go away,'” he said. “However, this runs two important risks. First, you will miss two or more quarterly dividend payments. For example, if you have $250,000 in a retirement fund, your dividend yield on an S&P 500 Index investment is $5,323 a year. If you pull out for half the year, you’re leaving $2,662.50 on the table, which could compound into $10,695 in the next 20 years that won’t be yours if you don’t collect.”
Additionally, Tuchman said that those who sell seasonally miss out on gains.
“For almost 50 years, stocks have put on about one percent during the summer months,” he said. “The up summers averaged 5.6 percent, and the down summers averaged a negative 8 percent. But if we have a typical, truly average summer, that’s another $2,500 you don’t collect by being in cash.”
7. Index Funds Are Better Than Active Funds in Market Downturns
Eight out of nine investors surveyed by Fidelity believe index funds offer more protection than active funds during a downturn. However, Fidelity’s research shows otherwise.
“On average, actively managed, large-cap stock funds lost less during recent bear markets than large-cap index funds. Index funds, by seeking to match the market before fees, are exposed to similar market risk as the index,” the Fidelity report found.
Therefore, active stock funds, which aim to outperform the market, might even be able to make up for any losses experienced during downturns and offer stronger returns in the long run, according to Fidelity.
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8. Investment Fees Are Small and Insignificant
In the short term, investment fees might not seem like a big deal. However, over the long term, fees can eat away at your investments.
“Fees are incredibly important over time,” said Jacob Lumby, founder of personal finance blog Cash Cow Couple. “Small fees compounded over many years result in the potential for large losses.”
Here’s the impact of fees on an ending account balance over 30 years:
- Tom: $100,000 growing at 7 percent, minus 3 percent in annual fees = $305,257
- Joe: $100,000 growing at 7 percent, minus 2 percent in annual fees = $415,237
- Bob: $100,000 growing at 7 percent, minus 1 percent in annual fees = $563,079
“Fees are one part of investing that investors can control,” said Lumby. “Low-cost index funds can be purchased for less than 0.10 percent in annual fees.”
9. Sell in a Volatile Market to Protect Yourself
It’s natural to feel panic when the market takes a downward turn, and although many investors know that it’s best to stay invested in those times, panic can still get the better of them.
Fidelity’s survey found that 77 percent of mutual fund investors believe that it’s better not to try to time the market, and stay invested for the long haul. However, some will still find themselves selling to dodge short-term losses, which means they miss out on the long-term gains.
10. Investment Professionals Know How to Beat the Market
Some investors might choose to forgo investing in index funds in favor of having an investment manager. However, that doesn’t necessarily guarantee better returns over time.
“Numerous peer-reviewed studies have shown that investment managers fail to outperform a simple, low-cost index fund over long periods of time,” Lumby said. “The managers that do well in one time period usually do poorly in the next, making it impossible to pick a winner ahead of time. [Instead] purchase low-cost index funds and stay invested through the good times and bad.”
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11. All Investment Advisors Are the Same
Currently, registered investment advisors are held to a fiduciary standard, which means that they must act in their clients’ best interests. On the other hand, stock brokers are held to a lower standard, the suitability standard. This requires only that the investments recommended must be reasonable for their clients.
A rule proposed under the Obama administration would have extended that standard to any and all investors giving retirement advice, but a recent Fifth Circuit Court decision struck it down prior to the rule taking effect.
12. Gold Is the Best Investment
Despite the commercials touting the benefits of gold, opinions about its benefits as an investment vary. Gold is currently trading at about $1,200 an ounce and is down roughly 7 percent in 2018, but the metal is still off its all-time high of $1,916 an ounce, set in August 2011. Gold can be a decent hedge. However, investing directly in the metal carries additional costs, like storage.
13. 5-Star Mutual Funds Are the Best Investments
Morningstar assigns mutual funds a star rating that is based upon past performance and other metrics. Five stars is the highest ranking. However, these rankings of past performance are not meant to be predictors of future performance. Morningstar’s analyst ratings do provide a forward-looking analysis of mutual funds, but never forget that past performance is no guarantee of future returns.
14. Safe Investments Are the Way to Go
To most people, safe investments — like bank savings accounts, CDs and money market funds — mean that they are “safe” from losing money or declining in value. While these investments are safe, they offer very meager returns compared to those available in bonds, stocks or other “risky” securities. People who are saving for long-term goals, like retirement, face the prospect of losing purchasing power to inflation as a result of playing it too safe with their money.
15. International Investing Is Too High-Risk
Some investors believe that international investments offer too much risk. However, research from Fidelity shows otherwise.
Fidelity found that a portfolio with 70 percent U.S. stocks and 30 percent international equities offered less volatility than an all-U.S. stock portfolio. Although this investment scenario hasn’t performed as well in the past decade, Fidelity said “given the cyclicality of U.S. and foreign stock returns, history suggests their relationship could revert to historical norms at some stage.”
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16. Income Trumps Total Return
“In the old days, trusts were written in a way that provided one beneficiary any income derived from the assets and another beneficiary any capital gains from the assets,” said Christopher Carosa, chief contributing editor of FiduciaryNews.com and author of five books, including “Hey! What’s My Number? How to Improve the Odds You Will Retire in Comfort.”
He warns that the cost of acquiring stocks and bonds to produce sufficient income can be high in a low-interest rate environment.
“If you rely solely on income, you either need to grow your assets faster than is reasonable, save more than is possible or end up living an unacceptably reduced lifestyle,” he said.
17. U.S. Stocks Typically Perform Better Than Foreign Stocks
The belief that U.S. stocks perform better than foreign stocks is somewhat true. However, Fidelity noted that U.S. and international stocks outperform each other in cycles. Recently U.S. stocks have performed better, but Fidelity said the markets are difficult to time and exposure to both asset types is likely the safest path.
18. U.S. Multinational Companies Offer Adequate Diversification
Fidelity found that many U.S. companies with overseas operations have gone through periods in which their stock prices were highly correlated to the S&P 500’s performance. Yet when a stock price closely tracks the market, it usually means there is less diversification. Fidelity noted a decrease in this trend, meaning U.S. multinational companies can offer better diversification, but it’s still important to keep a mix of international stocks in one’s portfolio.
19. Index Funds Outperform Active Management for International Investing
One of the most common misconceptions about investing — specifically international investing — is that index funds will outperform active managers. However, Fidelity found that active managers, using skilled research analysts, can offer better performance over time, possibly because they’ve identified good opportunities. Fidelity said that even after fees, actively managed, large-cap international funds tend to beat the benchmark index by 0.84 percent yearly.
20. Buy Low, Sell High is Universal
The “buy low, sell high” strategy is yet another myth that needs to be debunked, said Lund.
“The idea of ‘buy low, sell high’ is generally a myth because those terms are subjective,” he said. “It should be ‘buy high, sell higher,’ because strong stocks tend to get stronger over time, and you should buy stocks in an uptrend, regardless of how ‘high’ they are.”
Clearly, selling for more than you bought a stock for is crucial — and that’s easier when the opening price is lower — but if you think you should only buy stocks coming off of downtrends, you’ll end up missing out on plenty of big opportunities.
21. Hedging Currency Exposure Reduces Your Risk
Currency hedging is another strategy that can be challenging to achieve results with. To reduce the risk of unfavorable exchange rate shifts when holding a stock in foreign currency, investors should have an “equal but opposite position in the currency itself,” according to Fidelity.
However, even professional investors have difficulty timing currency. And there’s a level of effort and cost involved for returns that aren’t necessarily significant, Fidelity noted — so the strategy might not be worth it.
22. First-Time Venture Funds Are Risky
Like many investing myths, this one comes with caveats. “First-time funds outperform established venture funds, but returns are bifurcated. They tend to either turn out very well or turn out very badly,” said Eric Daimler, CEO of SpinGlass, and Chris Moehle, managing director of The Robotics Hub.
Situations in which returns are good usually involve experienced venture capitalists, “not just early employees that won the stock option lottery,” people with prior entrepreneurial experience and technical focus and expertise, they said.
23. Wall Street Is Rigged Against the Individual Investor
It’s a popular sentiment that Wall Street is essentially a casino that does not favor the individual investor. However, the data shows us that’s just not true.
“Too often I have heard that you might as well go to Las Vegas as invest in Wall Street,” said Robert R. Johnson, professor of finance at Creighton University. “Truth be told, the stock market is a positive-sum game. That is, on average, the market advances and has done so for many years. The market goes up about two-thirds of the time and falls about one-third of the time when measured annually.”
He pointed to stock data compiled since 1926 by Ibbotson Associates, which shows that a diversified portfolio of large capitalization stocks, such as S&P 500, had a compounded average of 10 percent annually.
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24. Shift More Assets From Stocks Into Bonds as You Age
This is a commonly prescribed idea, but it might not be beneficial depending on the investor’s situation, said Johnson.
“In actuality, the percentage of assets in equities should decline right before retirement, when an individual is in the retirement red zone, to protect individuals from sequence of returns risk,” he said. “Given other asset holdings, it might be appropriate for many investors to then increase equity holdings as they age.” Know the difference between investing in stocks and in bonds so you choose the best investments for your situation.
25. You Can Get 12 Percent Annual Returns in the Market
Unfortunately, this myth must also be debunked. Over the last 90 years, the average annual return of the S&P 500 has been 9.8 percent. Of course, the average return will vary widely during different periods of time. Investors should remember that long-term averages are just that.
The return to an investor who holds an index fund tracking the S&P 500 or other investments will vary based on what portion of the time he actually holds those investments for. Long-term average returns are deceiving and too often used to sell mutual funds and other investment vehicles. Instead, investors need to look behind any claims of outsized returns to fully understand what occurred and what it means.
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Joel Anderson contributed to the reporting for this article.
About the Author
Roger is an experienced financial writer and financial advisor who uses his experience to explain complex financial topics in an easy to understand format. Roger contributes to his own popular finance blog, The Chicago Financial Planner where he writes about issues concerning financial planning, investments and retirement plans. His work has been featured on Investopedia, US News & World Report, Yahoo! Finance, Equifax Finance Blog and other sites.