Investing always becomes more popular during a bull market, and with a gain of more than 20 percent in the stock market for the first half of 2014, some of the media coverage these days makes it seem almost like a spectator sport.
The truth is though, investing is a far cry from fun and games. To help keep your head amid all the hype, here are eight hard truths to keep in mind about investing:
- The rear-view mirror faces backward. Investors are said to be trying to drive by looking in the rearview mirror when they are making investment decisions based on past performance rather than future prospects. Remember, past performance not only has no guarantee of being repeated, but given the cyclical nature of many markets, past performance might be directly contrary to what you can expect in the future.
- People have motives for sharing their ideas. TV and the Internet are full of stock tipsters breathlessly sharing their views on which stock is about to become the next big thing. Before you get caught up in the excitement, remember what is probably motivating these people. They are likely to have bought the stock themselves before sharing the tip with the rest of the world, so their recommendations are hardly objective.
- The more expensive stocks become, the more attractive they seem. If a car manufacturer doubled the price of one its cars, it would probably sell far fewer of that model. However, when a stock's price doubles, it attracts investors in crowds. Try being as value-oriented as an investor as you are as a consumer.
- There is no such thing as safe. One of the "safest" investments, one-year Treasuries, illustrate a classic example of this. A cautious investor with a million dollars back in 1980 could have invested in one-year Treasuries and earned more than $140,000 in annual income. However, because of falling interest rates, by the end of 2013 that same investment would have produced just $1,300 a year in income. The moral of the story is that you don't so much get to avoid risk as you get to choose which type of risk you are willing to take.
- Somebody has to be the greater fool. Before you buy a stock, ask why someone would be selling that stock. It may just be because they found someone willing to overpay for it.
- Most advice is overpriced. Scrutinize the fees of any investment product or service you use. It is very difficult to earn a worthwhile return when you are giving up more than 1 percent in fees.
- Guarantees are dangerous. Be very wary of anything touted as a sure thing, unless it's got something like FDIC insurance behind it. In particular, anything promising a high return with no risk is probably a scam.
- Speed kills. Trying to get rich quickly is often a sure way of burning through money in a hurry. Investing takes patience, so be prepared to take your time.
There is nothing wrong with enjoying investing, but even if you approach it as a game, you need to take it very seriously. The eight hard truths above are reminders of what can -- and often does -- go wrong for investors.