Stock Investing Myths and Truths Part 4 of 4

Welcome back and thanks for joining us for the final Part in our 4 Part blog series about investing myths. We have two final stock investing myths for you today that will shed some light on misconceptions that people have about stock investing and, hopefully, help you to avoid them yourself. So without further ado, let’s get started. Enjoy.

Myth #7: Dividend stocks don’t deliver high returns.

Many growth investors view dividend stocks as stable (which is a good thing) but also as having slower growth and thus having an inability to bring high returns. Research performed by Ned Davis Research shows that the reality is much different however, and that the total returns for dividend paying stocks are higher than for non-dividend payers.

Let’s look at the difference. Between January of 1972 and January 2013, the annualized returns for companies that initiated or increased their dividends was 9.7%. The stocks from companies that didn’t pay dividends during that same time period returned 1.8%. If we look at this from the perspective of someone who invested $1000 dollars back in 1972, it would mean a $42,000 difference in wealth for the person who invested that money into dividend paying stocks rather than non-dividend stocks.

Myth #8: It’s not difficult to beat the S&P 500.

If you listen to the vast majority of marketing done by investment companies, you’ll soon be convinced that you can beat the market. Frankly, the data suggests the opposite, showing that nearly 60% of the 258 large-cap mutual funds in AAII’s Guide to the Top Mutual Funds (AAII Journal, February 2013) did not beat the S&P 500 return rate.

Considering that these funds are run by the graduates of the very best business schools, investing professionals who use teams of analysts to do their research and analysis, it’s not really surprising.

When you further consider that the average individual investor  often buys and sells at the wrong time, as well as making other common investing errors, it becomes rather obvious why the average return achieved by an individual mutual fund investor is less than 50% of what the S&P 500 realizes.

In other words, it actually is quite difficult to beat the S&P 500.

Frankly, even the great Warren Buffett believes that investors who have the time and inclination to select and purchase individual stocks can do well over time, meaning that yes it’s possible to make money selecting individual stocks. The only way to do it correctly however is to be extremely disciplined and rational, focusing on research and avoiding the 8 Myths that we have talked about in this blog series.

We truly hope that you learned a lot during the course of this 4 Part series, and that you now have  more, and better, information than you did when you started. If you have any questions about investing in the stock market, or would like to leave some comments, please do and we’ll make sure to get back to you with any answers that you might be seeking. Thanks so much for joining us and make sure to bookmark us and come back for more excellent investing information in the future.

Stock Investing Myths and Truths Part 3 of 4

Welcome back for Part 3 of our 4 part series on the myths behind stock investing. We’ve already seen, and debunked, four myths that have been around for quite a long time, and hopefully these have given you an idea about why doing your own research, and forming your own opinions about stock investing, is so important. Today’s blog will hopefully do the same so let’s get going. Enjoy.

Myth #5: Losses on paper aren’t important.

Stocks are what is known as “liquid assets”, meaning that at any time they can be sold or liquidated throughout the trading day. Many investors rationalize that, when a stock’s price falls below its purchase price, they haven’t actually lost anything because the stock still hasn’t been sold. Since a stock is only worth what its currently trading at however, this line of thinking is incorrect.

The problem is that when the stock falls in value, the purchasing power behind it falls as well. If, for example, you had $10,000 in a specific stock and the price falls by 10%, you now have an investment that’s only worth $9000 and 10% less money to spend on whatever you are planning to purchase with that money. The damage here is twofold; the loss of purchasing power and the loss of value.

This isn’t to say that you should quickly sell your stocks whenever their price drops because, as you’ll find out, the market goes up and down like the tide and there will be times when you have losses. Even Warren Buffett, one of the most successful investors of all time, has seen losses during his investing career.

Holding onto a stock for the sole purpose of getting back to the break-even point isn’t recommended either however, but rather a re-examination of the company, and your reasons for investing in them to begin with. Ask yourself whether you would purchase their stock now, if you didn’t currently own it. The answer to that question will help your decision-making process.

Myth #6: You should purchase the stocks that are in being talked about by the news media

There are, to be sure, a plethora of news agencies reporting on the stock market every single day. Stocks that are making headlines are usually doing so because of an earnings release, an analyst upgrade or some type of new product announcement, and these headlines can sometimes create the false assumption that these stocks are being purchased or traded vigorously.

The fact is however that once a stock has made it to being featured on the news, the information about it has already been disseminated around the industry. There’s simply no way for an individual investor to react fast enough to beat a professional traders, making any reaction to daily stock headlines a losing proposition.

The good news is that, unlike a professional trader, you are not beholden to anyone for your performance and can hold onto stocks patiently. There’s no need to react to headlines and, even better, you can actually take as much time to analyze a stock, and the company behind it, to find a good entry price.

Since stocks with less trading volume tend to perform better (as shown by research from Yale professor Roger Ibbotson), they are likely to be undervalued, making any purchases based on headlines even more unadvisable.

That’s it for today’s blog. We hope these two new myths were eye-opening and provided you some valuable information about what you should, and shouldn’t, do when it comes to your own stock investing strategy. Make sure to come back and join us for our final blog in this 4 Part series very soon.

 

Stock Investing Myths and Truths Part 2 of 4

Welcome back for Part 2 of our 4 Part series on Stock Investing Myths. As we told you in Part 1, even though there’s plenty of information about what works and what doesn’t when it comes to investing in the stock market, many myths still refuse to die and, if you have heard one (or several), this blog series will hopefully persuade you not to be fooled by it.

Off we go.

Myth #3: The only option that you have are Large-Cap stocks

While it makes sense that the investment media focuses on stocks that belong to the Dow Jones industrial average or the S&P 500 index, because they’re the most widely held companies and also the most familiar, the fact is that they also make up only about 10% of the US exchange listed stocks.

As an individual investor, you are certainly not tied down to any investment objective or restriction, and thus taking advantage of the many stocks outside of the large-cap index is a freedom that you should take advantage of. Another reason is simply that, as the size of the company goes down, the potential for returns on their stock goes up.

Simply looking at history will show you what we’re talking about. Small-cap stocks have outperformed large-cap stocks since 1926. Their annualized return of 11.9% is better than the 9.8% of the large-cap stocks and, since smaller companies are often overlooked by investors, there’s a much better chance that their stocks will be underpriced. The only two caveats are that smaller-cap stocks have less trading volume and are a bit more volatile, the trade-off that you pay for the higher level of returns that they bring

Myth #4: A low-priced stock will double its value more easily than high-priced stock.

Okay, so a kindergartner could tell you that if you take a stock that’s trading at $2 per share, it would only take a $2 increase for it to double in price. For a $20 stock to double in price it would need to increase by $20, so it stands to reason that making money with the $2 stock would be easier.

The only problem is that this logic ignores one of the most basic concepts of investing, the fact that the entire market capitalization of the company has to double in order for its stock price to double in value. (This assumes that there’s not been a change in a number of outstanding shares.)

Market capitalization, which is the value of the entire company, can be determined by multiplying the number of outstanding shares by the current price of those shares. Knowing this simple formula allows you to see why, whether a stock trades for $2 or $20, the only way its stock price will double as if the entire company doubles its current value.

Frankly, if a stock is trading for less than the price of a single bottle of water, you should already be asking questions about it’s worth. Usually investors perceive a high level of risk when any stock is trading for $2 per share or less. You won’t find these companies traded on the exchanges or filing quarterly reports with the SEC either.

And there you have it, two more myths debunked. We hope you’re finding this information valuable, as well as interesting. Make sure to come back and join us for Part 3 and learn even more about investing myths.

Stock Investing Myths and Truths Part 1 of 4

One of the biggest reasons that many investors underperform is that they follow strategies based on myths rather than doing their own research and using due diligence. While a plethora of studies exist showing what does and doesn’t work, there are a number of myths that continue to endure and avoiding them will definitely make a substantial difference in your profits over time.

In this 4 Part series we’ll take a look at some of the biggest myths and do our best to debunk them for you. Enjoy.

Myth #1: Excellent companies always have excellent stocks

While it wouldn’t be a stretch to believe that an excellent company would also have an excellent stock and make a great investment, the fact is that some companies look great on the outside but, on the inside, aren’t as sound as you might think. For example, they might have an excellent product and a CEO who’s quite charismatic, but that charisma hides the fact that they aren’t profitable and have a business model that goes through cash faster than they can generate it. There are of course excellent companies that, due to their success, also have stocks that have a very high valuation.

Your best plan of action when you hear about a company that’s doing well is to conduct your own thorough research before you buy any of their stock. See if they’re financially sound by checking their financials and profits. Check their stock’s valuation to make sure it’s not over or undervalued and always keep in mind that even a good company can be a bad investment.

Myth #2: Growth is better than Value

It’s certainly true that people will pay attention to a company that has strong revenues and earnings growth. If those companies happen to be in emerging industries or their products and services are innovative, the attention can be even more intense. Stories like these are positive and it’s easy to believe that a company’s soaring growth will also lead to a huge rise in their stock prices.

Long-term data however is completely contrary to this opinion. In the compendium of historical data on stock and bond performance, the Ibbotson SBBI Classic Yearbook, long-term data showed that value definitely beats growth. For example, a portfolio of large-cap growth stocks between 1928 and 1912 showed an annualized return of 8.8% while, during that same period of time, a large-cap value portfolio had a return of 11%.

While that difference might not seem significant, what you need to consider is that your brokerage account balance, in just 10 years, would be over 22% bigger if you were investing in value stocks instead of growth stocks. That gap would also become even larger as you keep investing.

The reason for this mystery is simple; higher expectations often lead to disappointment and expectations for growth stocks tend to be much higher than for value stocks. Even worse is that investors expect a company that’s doing well to keep doing well and, as its revenue rates and earnings growth continue, valuation rises as more and more investors purchase the stock.

Consequently, when the company reports their sales and earnings, and they don’t need the expectations of investors, their stock price will plunge no matter what the actual growth rate is, or how strong it is.

Have these first two myths opened up your eyes a bit? Hopefully they have because we’d like you to come back for the next 3 Parts in our series to find out more. In the meantime, keep doing your research and learning as much as you can about investing in stock market. The more you know, the less risky any purchases you make will be.

 

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