Porfolio killers: 6 newbie investing myths
Reprinted courtesy of marketwatch.com.
To read the original article click here.
Investing myths that make for less-than-legendary portfolios.
Even though they may not have many dollars to put away, investors who are just starting out have a fabulous opportunity: The chance to compound money for a very long time.
Perhaps even more important, they have the opportunity to create the habits and attitudes that will shape their investment returns — and thus will eventually help shape their lives as retirees.
Unfortunately, these opportunities are too often squandered because of bad advice. Sometimes it comes from well-meaning (but ill-informed) mentors; in other cases, lousy guidance comes from industry professionals hoping to take advantage of inexperienced newbies.
Let’s look at some common advice given to young investors and see if we can separate the myths from the realities.
Myth or reality? When you are young, it’s OK to take lots of risk. After all, you have plenty of time to recover later if (more likely when) things don’t work out.
That’s a myth.
I think the reality is the opposite. All those years of potential compound interest are wasted if you quickly lose the first $1,000 you save for the future because you took somebody’s advice and invested in an appealing “story stock” or, as I did myself, invested in commodities.
Young investors generally should take the risk of equities. But they should take what I call smart risks by diversifying in historically productive asset classes through exchange-traded funds and mutual funds. A great place to start is with a small-cap value fund.
Myth or reality? When you’re young, you can’t afford to hire professional help, so you need to do it all on your own.
I think each part of that statement is a mix of reality and myth.
This is reality: Beginning investors typically should spend their money very carefully and may not meet the minimum fee requirements of the most experienced advisers. And of course they should learn as much as they can.
This is myth: Spending money on an adviser is unproductive. Therefore you should turn for advice to friends or brokers.
Here’s my take: Many young investors would do well to spend an hour or two with an adviser (but not a stockbroker) in order to get off on the right foot regarding such topics as asset class selection, asset allocation, fund selection — and of course how much they will need to save in order to meet their retirement goals.
Myth or reality? A young broker or adviser is best suited to help a young investor.
I think this is a dangerous myth. A new investor learning the ropes should not be taught by an adviser who’s learning the ropes at the same time. Experience really counts.
My free e-book, Get Smart or Get Screwed: How To Select The Best and Get The Most From Your Financial Advisor, covers a lot of good ground on this topic.
Myth or reality? Investing is just a big gamble, so you might as well go to Las Vegas, where you can at least have fun with your friends.
To me, this sounds like a convenient cop-out for somebody who may be lazy and who certainly doesn’t understand what it means to be a savvy investor.
Investing isn’t gambling, and it shouldn’t be entertainment.
When you are a gambler, you expect to learn in seconds, minutes or hours whether or not you are successful. This is what happens when you buy a lottery ticket.
When you’re a speculator, you may have to wait a year or even 10 years to discover whether you won or lost — and you may have no better than a 50-50 chance of winning. Putting most or all of your money into a single company (or into just a few) is speculating.
When you’re an investor, on the other hand, there’s a high probability that you’ll make money over a period of 10 years or more. This assumes, of course, that you’re a savvy investor instead of a negligent or careless one.
Myth or reality? A reliable way to know what percentage of your portfolio should be in equity funds is to subtract your age from 100. If you’re 25, that formula would indicate a portfolio 75% in equities and 25% in bonds.
While this formula is easy and simple, it’s a misleading myth that can cost an investor hundreds of thousands of dollars over a lifetime. In the long run, every 10% you hold in bonds costs you about one-half of a percentage point of return. In my experience, it’s a rare investor who needs any money invested in bond funds before age 35.
Getting the right answer to this question is important enough to be worth a bit of study and thought. In my free e-book, 101 Investment Decisions Guaranteed to Change Your Financial Future, you’ll find 10 suggested strategies for figuring this out the right way.
Myth or reality? The harder I work on learning about the market, the more money I am likely to make.
This is a myth. Sure, knowledge is valuable. But working harder is more likely to hurt your results than to help them.
You can spend virtually all your time studying market trends, earnings, interest rates, inflation, politics, and the economy. But the reality is that how much you know about those topics has little to do with your long-term investment returns. Sorry.
If you learn enough to organize your investments up front and adopt a robust long-term strategy using low-cost index funds, you’ll be set. After that, the more involved you get, the less money you are likely to make.
If you work two hours a year making investment decisions, you are probably wasting an hour in which you could do something more productive.
Richard Buck contributed to this article.