JUST PLAIN TALK: Retail investors plow into stocks
After The Great Recession of 2008-2009, individual investors shunned stocks. With the pandemic forcing people to work from home, the number of Americans buying stocks soared. In 2010, individual investors accounted for 10% of stock trades; last year it doubled. Many have sizable gains, with the market rallying from last spring's precipitous decline and soaring to record highs. Christine Benz, Morningstar's director of personal finance, warns that novice investors may be learning the wrong lesson.
In surveys taken around the world, most people fail a simple, three-question personal finance test. Respondents stumbled over the following true or false statement: Buying a single company's stock usually provides a safer return than a stock mutual fund. The correct answer is false. Benz warns that newbie investors may be setting themselves up for a fall by limiting their portfolio to a few stocks or, even worse, day trading. Another potential problem is investors may be loading their financial boat with similar companies. If the market turns, what professionals call "narrowly constructed portfolios" often tumble. The dot.com bubble of 2000 is a prime example. History may not repeat itself, but it rhymes.
Interestingly, Benz pointed out a few years ago she worried younger people would become risk-averse after seeing home prices and stocks plummet. Don't forget this nugget from Warren Buffet. "You never know who is swimming naked until the tide goes out."
Sure, some men and women can successfully pick stocks. Last week on NPR's "Planet Money," a GameStop investor told how he parlayed $300,000 into almost $4 million. Even with his tax liability, he's in great shape. But this is an anomaly. Individual investors compete against highly trained professionals, who have access to detailed research and whose orders will be traded more favorably.
The surge of individuals buying stocks follows a typical pattern. As prices rise, investor sentiment picks up. Then when prices fall, people panic and sell. Rinse and repeat. A lot of evidence shows, professionals, my team react similarly. Humans are hard-wired to make investing mistakes like chasing returns. Plus, financial losses sting more than gains make us feel better.
Play a different game. Do something boring like paying off consumer debt first, then set aside enough money for emergencies. Having an emergency stash is especially critical for Floridians. Hurricanes have a way of disrupting your finances.
The core of everyone's portfolio should be low-cost index funds. As a beginner investor, target-date funds are another option. Pick one with a maturity close to your expected retirement. Target-date funds (TDFs) become less aggressive with lower stock allocations over time. One of my retired clients has a 2010 TDF in her deferred comp plan. It was a good fit for her risk, her time horizon, and her goals. Index funds and target-date funds are mundane, and that's good. Investing should be as dull as watching paint dry.
You can't always get what you want, but Buz Livingston, CFP, can help you figure out what you need. For specific advice, visit livingstonfinancial.net or drop by 2050 West County Highway 30A, M1 Suite 230.