5 Myths about Stock Investing Debunked
Stock investing has evolved over the years as technology and globalization continue to improve interactions between people and markets. Back in the days, people used to get a signed certificate of ownership after purchasing shares of a particular company.
IPOs (initial public offerings) were the preferred ways of stock investing and only a few people like Benjamin Graham and Warren Buffett were able to play around with stock valuation as a means of making investment decisions.
However, a lot has changed since then and today, anyone can actually participate in the stock market, but there are a few myths out there about stock investing that warrant debunking.
Stock investing is the same as gambling
Given the current nature of the global stock markets, there may be some sense in this statement because apparently, this is what drives some people some people to stock investing. So often, I have heard people talking about gambling on a few stocks or gambling in the stock market. Where did that come from? This is why most of these kinds of people end up losing money.
Stock investing is nothing like gambling. It is far from it if you really understand the word investing. Stock investing involves acquiring a percentage of ownership in a given company at a price, which is determined by the market. It is possible to actually determine the real value of a company and hence its stock by assessing the company’s estimated future cash flows.
As such, deciding on whether or not to buy a particular stock depends on a variety of valuation variables, as well as, the market forces of demand and supply. The profits you make from owning the stock do not necessarily result in a loss to another shareholder because shares are held in perpetuity.
On the contrary, gambling is a zero-sum game with no particular variables for determining potential future earnings and a profit for one person results in a loss to another.
The stock price is always cyclical and what goes up must always come down and vice versa
This is one of the biggest misconceptions of the stock market. If you want to be successful in stock investing, you have to look at the market with a different view. Assuming that what goes up must come down and vice versa is like looking at a three-dimensional object on a two-dimensional platform. You cannot get the whole story.
While it is true that some stocks will eventually recover after a decline in price, some stocks fall and eventually the company files for bankruptcy. This means that if you invest in a company whose stock price has fallen significantly assuming that it would recover, you may as well end up losing your entire investment. The same applies to the company whose stock has risen significantly. If you choose to wait until the price falls back to low levels, you might as well wait forever. Therefore, the key to stock investing is the valuation of the stock to determine if the market value of the company reflects its intrinsic value. If you realize that there is a discrepancy, then that’s when you invest, long or short the stock accordingly.
The key to good stock investing is diversification
It would be hard to argue against this statement, but unfortunately, it only applies to novice investors. If you have no idea of what stocks to buy, then the best way to invest would be to spread your capital in a number of stocks to reduce the risk.
However, the stock market is not meant for novice investors because if you go in as a novice investor, then you are likely to lose money. Knowledge is key in stock investing and once you have this in place, then the idea of diversification is debunked from a mere practice of spreading out your investment funds across a number of stocks to picking the best stocks to invest in based on their valuation multiples and the potential for returns.
Take for instance, Warren Buffett who is often referred to as the father of modern value investing; he has a net worth of more than $60 billion, yet he invests in about 10 stocks. Under the normal description of diversification, he would probably be investing in 1,000 stocks or more.
Stock investing is time-consuming
Ideally, stock investing requires one to keep a close eye on the market especially if you invest in highly sensitive stocks. However, this does not mean that you maintain a 247 watch of the market. Unless your main goal is to trade stocks based on short-term events, investing does not require day-to-day monitoring.
In fact, it could take only 15 minutes a week to keep tabs on the performance of the shares you have bought. Most of the work is, however, done before choosing which stock to invest in and when making a decision on whether to sell and the right price to sell.
As such, stock investing is not as time-consuming as most people would suggest.
Only stock brokers and the rich benefit from stock investing
This is not true. One of the unique attributes of stock investing is that as long as you understand the market and possess good knowledge about stocks, then you can benefit from the stock market.
Stock investing does not require a high initial financial outlay like most investment vehicles. As such, even individual investors with limited access to capital can still invest in stocks and claim the benefits associated with stock investing.