These myths are often repeated, but they aren't necessarily true. Which ones have you fallen for?
In managing their portfolios, many individual investors — and some advisers — commit blunders because they accept investing myths. Busy physicians may be especially vulnerable because they lack time to question or investigate assumptions.
These myths thrive from repetition and ready adoption. Constantly repeated in financial media, they become ingrained in investing culture.
Here are some common myths and reasons to reject them:
Market highs are the same as market tops.
A market top is the point where the market reverses its upward climb and heads downward to a correction or bear market. By contrast, a market high is when major indexes ascend to an unprecedented point.
If people are astonished at new highs, they’re astonished a lot, as new highs occur frequently. The S&P 500 index has hit new highs in 62% of all years since 1954, with a per-year median of 11. In 2021, the second best of all market ascendance years, it reached a new high
Inflation damages stock returns.
Historically, this just hasn’t been true. Over the last 50 years, stocks have been the best hedge against inflation 75% of the time. Since 1973, over various two-year periods after inflation readings of 5% and under (a level that’s likely for much of this year), the S&P 500 has delivered returns ranging from 17% to more than 23%. Real estate investment trusts (REITs) have also done quite well during such periods because these landlord companies can just raise rents with inflation.
Dollar-cost averaging produces better results than lump sum investing.
Dollar-cost averaging (DCA) — buying incremental amounts of an investment gradually over time — is a popular strategy. Although DCA helps with investing discipline in some ways, it rarely produces better returns than lump sum investing. The problem is that investors using DCA tend to buy shares at higher prices. Results of a recent study by The Northwestern Mutual Life Insurance Company show the superiority of the lump sum method. The findings showed that since 1950, lump sum investing has outperformed DCA in equity portfolios 75% of the time. For portfolios of 60% stocks and 40% bonds, the rate was 80%.
Dividend reinvestment programs (DRIPs) are beneficial.
This is when you tell your brokerage to automatically reinvest dividends, buying more shares of the same stock indefinitely. Brokerages make this choice easy; all you need do is check a box.
DRIPs are a mindless way to invest because purchases are automatic rather than price dependent. So you could be unwittingly buying more shares at an unreasonable price.
And when you give the dividend back to the issuing company, it’s like saying, “You know what to do with this money better than I do,” though this really might not be the case. You might be better off investing these dividends elsewhere.
Options always add risk to a portfolio.
Market volatility is generally viewed as synonymous with risk, but the two are quite different. Options can harness stock volatility for gain while reducing risk over the long term. Professional investors use options in tandem with major indexes in programs known as options overlays to seek additional profits from indexes’ movements, both up and down. My firm did a study to back-test results from hypothetically using overlays on the S&P 500 over a nearly three-decade period. The study (the basis for actual portfolios we now manage) showed returns of 1,183% for the overlay strategy versus a 782% gain for the index alone over 26 years.
A more accessible way to harness volatility is to invest in options ETFs, a relatively new financial product that is gaining popularity.
Global diversification reduces risk and increases returns.
I call this “deworsification” because it usually does just the opposite. Except for a handful of years during the Great Recession, U.S. stocks have outperformed internationals every year over the past three decades. A major problem with diversifying globally is that U.S. and international markets are increasingly correlated, rising and falling together. This defeats the purpose of diversification. Other downsides of going global include currency risk and foreign regulation risk.
Economic growth is so great in China that investing there is a must.
To the contrary, growth in China has been eroding rapidly, and heavy-handed regulation by the ruling Communist party is starting to drive multinational companies away. Among other problems, China’s huge, party-controlled real estate sector is roiled by debt. Before these issues developed, there was a lot of U.S. media ballyhoo about how China was on track to overtake the U.S. as the world’s leading economy by 2030. But current trends suggest this probably won’t happen. And even if China were to become numero uno, it probably wouldn’t be on top for long because its previous limit of one child per family is projected to irrevocably result in a low working-age population for decades, stunting economic growth. Low birth rate in the U.S. likely won’t have the same effect because high immigration will likely sustain the domestic working-age population.
Investors should put more and more money into bonds as they get older.
For many investors, this decades-old recommendation never made sense. Now it makes even less sense. The main attraction of bonds is their reputation for lower risk than stocks, but this has seldom been true over the long term. Over time, inflation threatens the buying power of bond returns, and rising interest rates erode their value because new bonds then pay more.
The classic yet misguided recommendation for people approaching retirement was to have a portfolio of 60% bonds and 40% stocks. This is now widely regarded as your father’s asset allocation because in recent years, bond price movements have become increasingly correlated with those of stocks, and yields have declined sharply. Bonds have become even more undesirable since 2020, when the Fed cut the federal funds rate, pushing down bond yields. As a result, investors are now losing money on Treasury and investment-grade corporate bonds after inflation. Those seeking income-producing stock alternatives might consider various dividend-yielding investments including REITs and other, lesser-known income vehicles.
These are just a few examples of investing myths; there are many others. The only way to immunize yourself against them is to do time-consuming research or, better yet, engage a qualified adviser (you should probably have one anyway). Thus you can distinguish fact from fiction and keep myths from hamstringing your
Dave S. Gilreath, a Certified Financial Planner, is a 40-year veteran of the financial services industry. He is a partner, managing director, and chief investment officer of Sheaff Brock Investment Advisors, LLC, a portfolio management company for individual investors, and Innovative Portfolios, LLC, an institutional money management firm. Based in Indianapolis, the firms managed about $1.4 billion in assets nationwide as of December 31, 2021.