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Top 5 Investing Myths

Nov. 9, 2015
Financial Planning, Investing
Top 5 Investing Myths
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Investing is emotional — after all, your money is at stake, and losing even a little of it doesn’t feel good.

That’s one reason why investors frequently seek out advice from every corner, asking friends and family for direction and following the guidance of advisors, both in person and on television.

But the investing world is rife with misconceptions, and wrong moves can be costly. Here are five investing myths to keep in mind. Knowing the truth could keep you from making an expensive mistake.

Myth 1: You have to pick stocks to be successful

In fact, stock trading is best left to the professionals. Individual investors are better off dollar-cost averaging into a diversified portfolio.

What that means, in layman’s terms: Invest a set amount of money on a regular basis, whether the market is up or down, and spread that money among a mix of investments that includes U.S. companies (both large and small), foreign companies, bonds and alternative investments like real estate.

Doing that, then holding those investments for the long term, will get most investors to retirement with a solid nest egg.

Myth 2: Actively managed funds are worth the higher cost

These mutual funds are managed by professional investors who pull the levers on a day-to-day basis, buying and selling the investments within the fund in an attempt to beat a benchmark, like the S&P 500.

But beating that benchmark rarely happens: In fact, last year, 86% of professional managers of large-cap funds (which hold the stock of high-value companies) underperformed their benchmarks.

The rub is that actively managed mutual funds are more expensive than passively managed funds such as ETFs and index funds, which aim to track those benchmarks with no professional management.

In fact, actively managed funds are significantly more expensive, when you look at the asset-weighted expense ratios. (“Asset-weighted” just means the ratio places more value on larger funds with more investors, in order to give a better picture of what investors actually pay.)

That expense ratio averages 0.70% for actively managed funds, compared with an average 0.11% for index funds, according to the Investment Company Institute. On a $10,000 investment left to grow at 7% over 35 years, that could make a difference of more than $18,000 in the end balance.

Myth 3: You should check your investment accounts daily

Richard Thaler, a professor of behavioral finance and economics at the University of Chicago, tweeted during the August stock market correction: “Inhale, exhale. Repeat. Then watch ESPN.” In other words, do anything but log in to your account and make changes.

Sure, you want to keep an eye on things and rebalance when your asset allocation gets out of line. But you should avoid checking your accounts when the stock market is doing poorly. Watching every rise and fall of your balance is only going to result in emotional decisions, which have no place in investing.

Myth 4: Only rich people can invest

You can begin investing with very little money, especially if your employer offers a 401(k) retirement savings plan. These accounts are funded with salary deferrals, meaning the money is swept out of your paycheck in an amount of your choice.

You can start with as little as 1% of your salary. But if your employer offers to match your contributions up to a limit, try to contribute at least enough to grab all of those matching dollars.

Investing through a 401(k) lets you avoid the minimum investments that are often required by mutual funds. But if you don’t have access to a 401(k), you can open a myRA or an IRA.

A myRA is a version of a Roth IRA that can be funded with paycheck deferrals (if you have direct deposit), bank transfers or a tax refund. Your money is then invested in U.S. government-backed bonds, which are safe and have no fees or minimums, but also offer a low return.

For most people, an IRA is a better choice, as it has a wider range of investment options. You can open a Roth or traditional IRA through an online broker.

There are online brokers with no or low account minimums and index funds that can be purchased for as little as $100 (though many do have minimums of $1,000 or more). You might also consider ETFs, which are traded like a stock and can be found for under $100.

And then there are robo-advisors, some of which have low or no minimum investment requirements. These services manage your investments for you based on computer algorithms, rebalancing as needed, and most offer the ability to open an IRA.

Myth 5: Investing comes with high fees that can’t be avoided

This is a bit of a myth-truth hybrid, in that fees are to some extent unavoidable when investing. But they can be minimized, and smart investors will take steps to do so.

The first step is simply paying attention to the fees you’re paying, which can range from administrative fees in a 401(k) to the expense ratios of the investments you’ve chosen.

If you are paying 401(k) administrative fees (some generous companies will swallow them on behalf of their employees), contribute just enough to get all available employer match. Then, open an IRA and start sending contributions to it. You can find your 401(k) plan’s fees in its summary annual report. Even if your plan has reasonable expenses, an IRA is a better choice for most people once the company match is met because it has a wider investment selection.

It’s easy to find an IRA that doesn’t charge administrative fees, although you should dig into your broker’s fee schedule, which will list any charges for things like closing the account or inactivity, or transaction costs for buying or selling investments.

No matter what kind of account you are using to invest, select low-fee investments like index funds and ETFs.

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Arielle O’Shea is a staff writer at NerdWallet, a personal finance website. Email: [email protected]. Twitter: @arioshea.

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