If you're going through your financial life assuming that certain common stock market myths are true, you could be doing great damage to your portfolio and your future financial security.
Here are five common myths that you'd do well to put to rest. Then act on the truths behind them — to build a nest egg for retirement, save for your kids' college expenses, or achieve any financial goals.
1. Investing in stocks is gambling
First off, don't believe that investing in stocks is gambling. It actually can be gambling if you don't know what you're doing and you take on a lot of risk, perhaps unknowingly. For example, don't just buy stocks you know little about because of a hot stock tip you heard.
Absolutely steer clear of penny stocks — those trading for less than about $5 per share — because, in general, they're notoriously volatile and risky. Don't buy stocks on margin (by borrowing money from your brokerage), either, as that can amplify your losses.
If you stick with stocks you have researched and know well, though, and they belong to healthy and growing companies, you can do very well over the long run. When you buy a stock, after all, you're buying a piece of an actual business. It's not like spinning a roulette wheel — it's like becoming a co-investor in what is, ideally, an ongoing, profitable company.
2. Investing is just for wealthy people
Investing in the stock market may seem like it's just for wealthy old people, but now more than ever, it's something just about anyone can do. You don't need thousands of dollars in order to invest in stocks.
You can buy a single share of, say, a $35 stock. You can buy three shares of a $120 stock. You can even buy fractional shares of stock via many good brokerages — perhaps a third of a $2,400 per-share stock.
Don't stop at small stock positions, though. As your income grows and you're able to sock away more money, do so. The more you invest and the earlier you do it, the fatter your portfolio will grow.
3. The lower the stock price, the better a buy it is
Don't assume, as so many people do, that a $20 stock is a much better bargain than a $150 stock. In reality, the $20 stock may be overvalued and about to retreat, while the $150 stock may be a $450 one in a few years.
A stock's price alone means relatively little. Consider, for example, that as of the time of this writing, shares of Walmart, Procter & Gamble, and Marriott International were all trading for around $145 per share. But each sported a different market capitalization, or total market value, arrived at by multiplying the share price by the number of shares outstanding. Procter & Gamble's market value was around $352 billion, while Walmart's was $403 billion — and Marriott's was just $47 billion.
4. It's easy to beat the market
Overconfidence can result in diminished portfolio returns, so be sure you know enough to be realistic about your expectations and ambitions in stock investing. Yes, Warren Buffett has averaged 20% annual returns over more than 50 years of investing, but he's Warren Buffett and probably much more talented when it comes to the stock market. (You might outperform him in cooking or roller blading, though.)
The average annual return of the stock market over long periods is close to 10% (see how good Warren Buffett is now?) — so that's the benchmark you'll likely want to beat if you're going to study stocks and invest in carefully chosen ones. You may be able to do it, but know that highly paid Wall Street professional money managers have trouble outperforming the market. Consider that as of the end of 2020, fully 94% of large-cap stock mutual funds underperformed the S&P 500 index over the previous 20 years.
5. It's hard to find great-performing stocks
There are lots of great stocks out there, but it can take some time, effort, and skill to find the ones that seem most promising to you. And some or many of those may not pan out, either.
A perfectly excellent alternative way to invest in stocks, then, is by using index funds. By investing in index funds, you'll likely outperform all those fancy money managers by simply earning the market's average return. Index funds are terrific choices for most of us, and even Warren Buffett has recommended them.
With these myths no longer taking up space in your head, you should be better able to build wealth over time — by investing in the stock market, ideally for many years or decades, and possibly via index funds. Here's to your bright financial future!
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Selena Maranjian owns shares of Marriott International and Procter & Gamble. The Motley Fool recommends Marriott International and recommends the following options: long January 2023 $115 calls on Marriott International. The Motley Fool has a disclosure policy.