The world of investing is attracts everyone. The freedom and opportunities that stock market offers to its investors are unmatched by any other asset class. Stock market has given us billionaires like Warren Buffett, Carl Icahn, John Templeton etc. These and many other billionaires have proved that it is possible to make money successfully and consistently in the long term.
Being a part of big guns of stock market requires a lot of knowledge, research and most important patience, what it also requires is to have a clear understanding about the markets. There are many myths that surround the market because of which an average investor feels repulsive towards putting his hard earned money in stocks.
Before you begin to invest in stocks, it is better to understand and clear some myths related to stock market. We have prepared some of the most common myths people have about stock market and tried to explain, in a logical way why they are not true. Here is a list:
Investing in stocks is like gambling:
The most common myth about investing in stock market is that it is similar to gambling and money made from the stock market is purely based on luck. Nothing can be far from truth. Please understand, a stock is not a lottery ticket, but is a part ownership in a business, that owns and operates assets to make profit. As the company makes profits its business value grows with time, and since you own a part of that business in the form of shares, your ownership grows proportionally.
In order to make a successful investment, you need to find business which has a long history of good growth in the past and is expected to keep growing in the foreseeable future as well. This may sound very simple and trust me it really is. Now comes the tricky part, and the reason why despite being so simple, it is so difficult to make money investing.
Investing is simple but not easy. What does it mean? As mentioned above, there are two aspects of investing, one is finding a good stock and second is staying invested in it for long term.
Finding a good stock is the easier part of the story, to make a meaningful profit from it, you have to be patient and give your investment time to grow. Most investors do not have the stomach to handle the short term volatility of the market. As soon as the price of the stock drops, most investors hit the panic button, and bail out of the market.
What needs to be understood is that short term price volatility is just a temporary phenomenon. As long as the underlying fundamentals of the company (that is, its business model, and profitability) are intact, each drop in price is not disaster but a great opportunity to buy a great business at a cheaper price. By gaining some experience over time, it is possible to learn the art of finding good stocks and buying them on a cheaper price.
Professionals can do better than individuals:
Another common myth that is far from truth is that it is better to hire a professional fund manager than picking stocks yourself. A research published in the British Newspaper observer in 2012, revealed something shocking. In this research, a trio of Wall street expert investment managers were teamed up against a cat named Orlando. Both of them were given imaginary 5,000 each to invest in stocks listed on the FTSE index for a year.
The investment managers carefully selected the stocks after analyzing all the aspects, while the cat simply threw its favorite toy on random numbers associated with a stock name. ?After the end of the year, the returns were calculated and it was found that the investment managers had a sum of 5,176 while Orlando, the cat had 5,542. So, does that mean that paying professional managers for their services is pointless and simply is a waste of money? Not exactly. The experiment may suggest that cat is a better stock picker than professionals, but the entire experiment does not address the fact that you have to pick the right stocks consistently for a long period of time, to be a successful investor, which is difficult for a cat to do on a consistent basis. Hiring a professional manager does not guarantee better financial performance, but it definitely is better than picking stocks randomly just like Orlando, the cat did.
Stock market needs huge initial investment to start:
They say it takes money to make money, and to a certain extent its is true, that does not mean that it takes a lot of money to make money. If you study the life of some of the most successful investors, almost all of them stated with very little money. For example, Warren Buffett started investing with just a few dollars he saved delivering newspapers, Rakesh Jhunjhunwala started with Rs. 5,000 in his hands.
Both the investors made their fortune from stock market and both of them had a very humble beginning. Such living examples are a proof that it rell does not take millions to start investing, all you have to do is start with whatever you have and give it time to grow.
You can get rich quickly:
Thanks to some brokers and business channels, people in general have a perception that it is possible to get rich quickly by investing in stock market. People who think that stock market is a place to make quick bucks, do not have a clear understanding of basics of stock market. The price of the stock appreciates only when the business behind the stock performs well. No matter how good a business, it always takes some time for a it to grow and make money for itself and its shareholders. One has to be patient and willing to stay invested in order to make money. Look at the most successful billionaires around the world, they worked for decades before making meaningful return on their investment. Again Taking example of Warren Buffett, most of his fortune that you see today was made after the age of 50. It took him decades of hard work before becoming a billionaire.
Stocks going up presents good investments opportunities:
When a stock goes up, everyone wants to tap the opportunity to make money by riding the rally. The fear of losing out, forces us to jump in and invest in a stock. Unfortunately, by the time we are all in the market, the market goes down, leaving us with regret and losses. Warren Buffett once said:
The dumbest reason I can find for investing in stock is that its going up
To understand the logic behind this statement, you must understand how the stocks are valued. Every stock has an underlying business, which has its own value. Stocks of good businesses trade at a higher price than its underlying business value because market discounts its future estimated earnings to present value. High price of the stock means stock is more expensive ?compared to the underlying business. When you buy a share trading at a higher price, you pay for all the future earnings of the business, which leaves you with very little chance of making money by investing in the stock. In other words, paying too high price even for a good company is not a great investment decision.
In order to make money from investing, an investor must always look for bargain opportunities presented by the market and buy when the price of the stock is trading lower than the intrinsic business value. Such opportunities are presented during the bear market when all the stocks irrespective of the underlying business, trade at lower price. Buying quality business during market correction is the best long term investment strategy.
Mutual funds are better investments:
Most investors who do not have the time to invest and track stock market on a regular basis are advised to invest in stocks via mutual funds. It is also believed that since mutual funds are managed by professional fund managers with a lot of experience, they can easily pick stocks that will outperform the market. Thinking that mutual funds are always better option to invest is a myth. ?
Performance of a mutual fund is measured by how successfully it is able to beat the benchmark index and how long is it able to do so. Funds that are able to beat their benchmark index on a consistent basis are considered as good performing funds. However, history tells us that majority of mutual funds fail to beat their benchmark and hardly 10% of the funds are able to do that on a consistent basis.
In other words, if you are looking for a mutual fund that is able to outperform the market and make you rich in the long term, you have to be very careful while selecting a fund. Choosing a wrong mutual fund to invest may do more harm than good. Before investing in a mutual fund, it is always better to consult your financial advisor.
No matter what you do, if you do not have the right knowledge about the subject, there is a good chance to make silly mistakes. By educating yourself against most popular myths, you can save considerable amount of time, efforts and money which you would have otherwise wasted.
While all these myths related to stock market are pretty common, there are many more myths related to investing that most beginners and even experienced investors have. Do let me know your thoughts on this and if you want me to discuss about them in a detailed manner.
What are your most common myths about investing that you have recently discovered, do let us know in the comment section below.