2HRS2GO: Investing myths

8 min read

As the market continues its recent rebound and starts to look attractive again, let's revisit some commonly-held, but incorrect, assumptions.

I don't know how pervasive these myths are, but judging from e-mail, Talkback postings and message board rants, I'd say that they are widely embraced at least online. I'm not holding myself above this fray -- at one time or another, I've probably believed every one of these mistaken tenets. Hey, I'm only human.

Have an opinion on this?

Herewith, some Stock Misconceptions:

  • Good technology equals good investment. The most common mistake I hear about. People like Linux or want an alternative office suite, so they'll buy Red Hat (Nasdaq: RHAT) or Corel (Nasdaq: CORL). They dig the idea behind CDNow (Nasdaq: CDNW). They enjoy online grocery shopping so they bought into Peapod (Nasdaq: PPOD). They've heard raves about optical networking (even if they don't know how it actually works) so they buy Lucent Technologies (NYSE: LU).

    All these companies have some well-regarded products or services. And all of them have been mediocre investments or worse over the last 12 months.

    Marketing, distribution and pricing matter. Cost control matters. Production ability matters. In other words, management matters.

    Not that I'm necessarily saying that all of the above companies are badly managed, but let's their track records of late (or not so late) haven't been promising. You have thousands of investment choices on the stock market, so why gamble on an unproven business model, even if the technology seems promising? Plenty of good technology has failed and will continue to fail in the marketplace for one reason or another.

  • There are hidden gems to be found. Once upon a time this was true, but with the rapid dissemination of information these days, all gems are uncovered the moment they display any hint of value. The only thing anyone can do is buy into a stock that has plenty of room left to grow.

    Cisco Systems (Nasdaq: CSCO) stands as the most prominent example these days. It was expensive two weeks ago at 50, but that didn't stop it from picking up 11 points since. All network equipment makers are hot, and none of them are secrets. Just find the ones that won't fall off the wagon for awhile.

    A penny stock is a penny stock for a reason. Or if it deserves better, then it will get better and you can climb aboard then. Remember, you don't have to get in on the ground to make money. If we're talking about a truly quality stock, entering at the third or fourth floor leaves plenty of room to rise.

  • Past performance is not an indicator of future results. Technically this is true, because things change. But it's not the way to bet. Go with the percentages and you will win more often than you lose.

  • Online brokers will save you money. Online can save you money, but it depends on the specific broker and the frequency of your own trading. Ironically, the less you trade, the more likely you are to save money because if you're not a frequent trader, fractional movements don't hurt much.

    But if you move stocks frequently, you want every edge you can get. Unfortunately, the order execution of many online brokers is spottier than those of a traditional broker who has better relationships with market makers or simply more resources to deploy on a trading floor. If you're trading 1,000 shares, a 1/8 difference translates into $125. That can add up to thousands of dollars lost over the course of several months. Or saved if you have a reliable broker.

    That doesn't mean online brokerages can't provide fast and reliable trade execution. Some do. But when you're evaluating them, don't rely purely on price-per-trade or online information resources. Give them a few tests to see how well they handle your volume.

  • Wall Street firms are out to screw the individual. Newsflash to the Paranoia Squad: Wall Street firms aren't out to get you, because they don't care about you. Of course, their machinations can and often will hurt you, but it's not because they're aiming at a bullseye marked "Individuals"; rather, you might just be along the path to their real target.

    So when a brokerage upgrades or downgrades a stock, don't automatically assume it's for purposes of moving sheep. Analyst John Doe might believe what he's writing.

  • EPS estimates mean something. On the other hand, Doe might not. It's up to you, the reader, to evaluate research reports for yourself. They're available for relatively inexpensive prices at many places on the Web.

    Case in point: earnings per share forecasts. Don't expect too much from a company beating earnings estimates, because they're often low-ball numbers that companies can and sometimes do hurdle in their sleep. EPS figures are usually based on "guidance" from the company, as opposed to actual research.

    Evaluate EPS performance in the context of other factors, such as growth in net and operating income, revenue, cash balance and past history. If a normally reliable company misses estimates in a quarter, find out what was behind it before automatically assuming the worst. Last year, for instance, Intel (Nasdaq: INTC) stock hardly missed a beat after the company missed a quarter. In light of subsequent production problems, maybe the stock should have taken a hit, but at the time, Intel shareholders gave the chipmaker the benefit of the doubt.

    And if a normally shaky stock suddenly produces a stellar quarter, wait to see if it's an aberration.

  • Short-term trading is a fool's game. Buy-and-hold types love to point out to studies that show most individuals with frequent portfolio turnover underperform the market. Yet some folks can and do make money playing the near term, whether they trade stocks based on news or they engage in technical analysis. You just have to be smart and, just as important, disciplined about it. Like any other job.

  • Long-term investing is a fool's game. Chart reader types love to point to the recent departure or underperformance of traditional valuation gurus such as Julian Robertson and Warren Buffett. Just remember that Buffett's reputation isn't based on his record of two or three or even four years.

    He held onto Coca-Cola (NYSE:KO) for nearly a decade before it started producing powerful returns. Once it did, he looked like a genius. Granted, Coke has been pathetic lately, but Buffett remains way ahead on that and most of his other investments.

    Buffett could be legitimately criticized for ignoring technology stocks, but his methods can be applied to that field. Buying and holding Microsoft or Cisco over the years certainly produced as much of a fortune as any technical wizard could have.

    Fact is, both technical and fundamental analysis are legitimate ways of approaching the stock market. Just take an approach that matches your temperament.

    If you're patient, buy-and-hold works. If you can't stomach big dips, then it doesn't.

  • Shorts are bad, longs are good. Online message boards have this thing about blasting short sellers, who borrow stock to sell it, on the hope they can replace the loaned shares by repurchasing stock at a lower price on the open market. Shorts profit from the difference; in other words, they make money when the stock price falls.

    Vociferous, overly emotional longs need to get off their moral high horse and get a life, because the only difference between shorts and longs is methodology. Both sides have the same goal: making money off stock. Shorts are useful to all investors because they uncover flaws in a company. Shorts also moderate stock plunges, because they have to buy shares at some point to cover their borrowing; the buying provides a cushion for the very downside movement they profited from.

  • Online information can be trusted. As the Internet becomes more pervasive, more people rely on it heavily for information. And they should -- with caution.

    Chances are, if you're reading this, you probably came from the finance website of Yahoo! (Nasdaq: YHOO), so you already know of many ways to gather data online. But if you want a progression, here's one way to go about it.

    For fundamental investing, always start with documents filed to the U.S. Securities and Exchange Commission. I rely mostly on FreeEDGAR, because it carries electronic filings in real-time at no charge. You can also SEC documents from FreeEDGAR's parent, Edgar Online, which offers some services and features that FreeEDGAR doesn't, and the SEC itself. Edgar Online also offers real-time filings, but only for paying subscribers.

    Read analyst reports to get a flavor of what Wall Street is saying. Multex (Nasdaq: MLTX) and Zack's Brokerage Research are among several services that sell reports online. Some of the prominent brokerages, such as Merrill Lynch (NYSE: MER) and PaineWebber (NYSE: PWJ), sell their own research online. Most online brokerage accounts incluce access to some research.

    You can use the Internet for charts, real-time quotes, news from sites like this one, as well as more comprehensive ones such as CBS Marketwatch, MSN Investor, TheStreet.com and others.

    If you pretend to do any serious investing at all through the Internet, get a subscription to The Wall Street Journal's online avatar, WSJ.com. Get some context from places like The Motley Fool.

    Reading all this stuff won't provide any hot tips, but only fools chase tips without doing serious research of their own.

    You probably noticed that most of the websites mentioned above are very traditional, standard sources of information. That's exactly where you want to go for reasonably reliable data. Yes, they make mistakes too, but they make them less often than most.

    Message boards are virtually worthless for hard data, because no one on a board is objective. Most online message posters have agendas that make them the most dangerous investors of all: emotional ones.

    Don't rely too much on any one opinion, whether it's tossed around on free websites like this one or on the private subscription-based ones. You aggregate your information and sift through it.

    Usually it's not hard to filter out the garbage: the more vociferous, the more emotional, the more strident it gets, the less trustworthy it is. Be especially careful of longs pretending to be objective; they'll often couch their postings in phrases like "just an observation" or "Interesting tidbits".

All this might seem like Investing 101. Fine for you, but judging by what I see repeatedly, some folks never took the course. 22GO>