Saving for retirement is hard enough, but some common, everyday investment advice can get new investors off to a bad start, or worse, create losses for long-time savers that they’ll never make up.
You probably know better than to fall into these traps but I can just about guarantee that at least one person you know has believed — and acted on — some of the world’s worst investment advice.
As Warren Buffett says: “You only have to do a very few things right in your life so long as you don’t do too many things wrong.” And to that I would add: Most things we do wrong start because we acted on bad advice.
Let’s look at four bits of common — and terrible — advice:
No. 1: “The best investment you can make is in well-run growth companies.”
This sure sounds enticing. Who wouldn’t want to own high-quality companies that are managed well and highly respected?
If your highest priority is the comfort of knowing you own popular companies, this isn’t awful advice. But if you want superior long-term returns, you should know that value companies and small-cap companies have a higher probability of giving you those gains. The reason is simple: High-quality growth companies are popular and fully priced. Almost by definition, you can’t buy them at bargain prices.
(I want to emphasize here that several of these examples are aimed at investing in individual stocks, which for most nonprofessionals is among the worst investment moves. As I have written and said more times than I can count, smart investors own hundreds or even thousands of stocks through diversified mutual funds.)
It’s no secret that value stocks and small-cap stocks have higher long-term expected returns than large-cap growth stocks. Academics remind us, accurately, that those higher returns come from taking additional risks. However, value companies and small-cap companies, as asset classes, have achieved their higher returns with only modest amounts of additional risk.
No. 2: “The longer you hold an investment, the higher your probability of success.”
That seems plausible on the surface, but in fact it is wrong. In fact, the opposite is true. The longer you hold any company or a diversified portfolio, the higher the probability of a catastrophic event. An economic meltdown isn’t very likely in the next year or two but is much more likely sometime in the next 50 years.