Like most areas of personal finance, investing has more than its share of myths. Before you base your decisions on some of the more popular investing misconceptions, it’s important to do your research and to know that plans typically are not one-size-fits-all.
Consider these 25 investing myths that we debunked.
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 Bigger Pockets. Rather, stocks are more volatile than bonds, he added.
“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.”
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, 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 may 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 end-all.”
3. Diversification Will Protect Your Portfolio
Although it’s important to diversify your portfolio, as a strategy it comes with its caveats, too.
“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, vice president of partnerships at stock trading website SparkFin.
Warren Buffett himself has said: “Diversification is protection against ignorance. It makes little sense if you know what you are doing.” Rather than diversify, Buffett thinks it’s better to be well-informed about the industry you’re investing in, and choose your stocks accordingly.
4. Whole Life Insurance Is an Investment
One investing strategy involves buying whole life insurance. 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. The purpose of life insurance is to insure your estate against the event of your death.
“Furthermore, if it was an investment, then why wouldn’t some of the world’s smartest investment geniuses invest heavily in whole life insurance?” he said. “It seems a bit ridiculous when you think about it that way.”
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, one-fifth of investors surveyed believe 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,” Fidelity 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 IRA.
“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,” he said. “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.
“Second, you will miss out on gains,” he added. “For almost 50 years, stocks have put on about one percent during the summer months. 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.
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 CashCowCouple.com. “Small fees compounded over many years results 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 = $324,340
- Joe: $100,000 growing at 7 percent, minus 2 percent in annual fees = $432,194
- Bob: $100,000 growing at 7 percent, minus 1 percent in annual fees = $574,349
“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, their panic might still get the better of them. Fidelity’s survey found that 77 percent of mutual fund investors believed that it’s better to not 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 funds in favor of having an investment manager instead. 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.”
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 client’s best interests. On the other hand, stock brokers, registered reps and others who earn some or all of their compensation are held to a lower standard, the suitability standard. This means only that the investments recommended must be reasonable for someone in your situation.
However, new Department of Labor fiduciary rules for retirement accounts go into effect in 2017. This will require all advisors who provide retirement investment advice to be held to a fiduciary standard, meaning they must put clients’ best interests ahead of their own profits.
12. Gold Is the Best Investment
In spite of the commercials touting the benefits of gold, its benefits as an investment are mixed. So far in 2016, gold has done very well, in part reversing three down years, according to the returns on the gold ETF ticker GLD. Gold can be a decent hedge, according to some experts, Time reported. However, investing directly in the metal carries additional costs for things such as 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 a predictor of future performance. Morningstar’s analyst ratings do provide a forward-looking analysis of mutual funds.
14. Safe Investments Are the Way to Go
To most people, safe investments mean that they are “safe” from losing money or declining in value. Examples are bank savings accounts, CDs and money market funds. While these investments are safe, they offer very meager returns in today’s low-interest environment. People who are saving for long-term goals, like retirement, face the prospect of losing purchasing power to inflation via overexposure to safe investments.
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 would. Although this investment scenario hasn’t performed as well in the past decade, Fidelity said it expects it to “revert to historical norms given the cyclicality of U.S. and international stock market performance.”
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.”
“Although many consider income ‘safe,’ in a low-interest rate environment the costs of acquiring enough securities — stocks or bonds — to produce adequate income can be excessive,” he said. “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.”
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 although the markets are difficult to time, it expected foreign stocks to “take the lead again” at some point.
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
When it comes to international investing, it’s a common misconception 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 0.86 percent yearly.
20. Buy Low, Sell High
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.”
21. Hedging Currency Exposure Reduces Your Risk
Currency hedging is another strategy that can be challenging to achieve results with. In an effort to reduce the risk of unfavorable exchange rate shifts when holding a stock in foreign currency, it requires having an “equal but opposite position in the currency itself,” according to Fidelty. 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 and Chris Moehle, founding partners 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, prior entrepreneurial experience (i.e., not just employees), and technical focus/expertise,” they added.
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 and invest in Wall Street,” said Robert R. Johnson, president and CEO of The American College of Financial Services. “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 showed that a diversified portfolio of large capitalization stocks, such as S&P 500, had a compounded average of 10 percent annually.
24. Shift More Assets From Stocks Into Bonds as You Age
This is a commonly prescribed idea, however 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 the protect individuals from sequence of returns risk,” he said. “Given other asset holdings, it may be appropriate for many investors to then increase equity holdings as they age.”
25. You Can Get 12 Percent Annual Returns in the Market
Here’s a good one. And, unfortunately, it must be debunked. From 1928 to 2015, the average annual return of the S&P 500 was about 9.5 percent. Of course, the average return will vary widely during various periods on 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 upon what portion of a time period they actually held these investments. Long-term average returns are deceiving, and are 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 they mean.
This article originally appeared on GoBankingRates.