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Sound Advice: August 19, 2020

10 Things Investors Need To Know

Market forecasts are totally meaningless.  There are numerous seers in the media who with great seriousness provide definitive thoughts about where the market is going tomorrow, next week, next month or next year.  What's important to understand is that short-term market movements are heavily influenced by changes in investor psychology, which are unknowable. 

And for that matter, please ignore pronouncements from so-called technical analysts who attempt to divine the future from recent price patterns.  That is what the Brits call rubbish. 

The rewards of real fundamental analysis (profitability and financial health) are reflected in changing market prices over long periods of time, i.e., market cycles of three to five years or more, not in the next few weeks.

Target prices are nonsense.  Take a look at Yahoo! Finance, enter a ticker symbol, and up comes information about the stock in question, including a target price.  At best, target prices are amusing, but it would be risky to put together a portfolio of stocks based on such expectations. 

Don't follow analysts' recommendations.  There is no reason to believe that recommendations by Wall Street analysts are at all reliable.  I have yet to come across any study that supports their merit.  Indeed, most of the analysts' recommendations are Buys.  Why? Because these are typically prepared by sell-side analysts whose (often lengthy) reports are intended to help them sell large blocks of stock to institutional buyers and earn substantial commissions.

Here's why analysts' earnings estimates tend to be close to another.  It's considered a good idea for analysts to keep their estimates close to the "Street" consensus. Because if the consensus is wrong, the usual excuse is that everyone else got it wrong, too.  But if your estimate is an outlier and you miss the actual result by a wide margin, you might be out of a job.  From the standpoint of analyst job security, consensus estimates are much safer.

Find a financial adviser who is on your side of the table.  If your search begins with a visit to the local stock brokerage office, you may well end up speaking with one of the Vice-Presidents, typically a friendly person who has been trained to put you at ease and build confidence in the chemistry between you.  So was the Wizard of Oz until they pulled the curtains back.  These are salespeople.  Period.

There are exceptions, but they are the few who recognize that working on behalf of the client is most appropriate.

Be aware that the entry level title at a brokerage office is often exalted, an obvious effort to convince you that you're dealing with a senior person.  Quite often, that's not the case.  For another, it's more than likely that your new acquaintance is not required to put your interest first.  Indeed, this person's obligation to you may be nothing more than presenting ideas that are suitable . . . and potentially quite lucrative for him/her.

What you want is an adviser who is your partner, not someone who is a glorified salesperson.  This usually means a Certified Financial Planner, a Registered Investment Advisor or a Chartered Financial Analyst.  In all cases, you need a fiduciary, one who is required to act in the best interest of the client.

Lower fees mean higher returns.  When buying stocks or exchange-traded funds (ETFs), you should not have to pay a commission.  When buying mutual funds, look first at the lists of no-transaction-fee funds offered by many brokerage houses.  Also, when buying mutual funds or exchange-traded funds, make sure to look at the funds' expense ratios.  For mutual funds, you should avoid funds with expense ratios above 1.50% and if at all possible focus on those closer to 1.00% or below.  For exchange-traded funds, expense ratios, except for those involved in unusual asset classes, should be below 0.50%.  Indeed, indexed ETFs can be found with expense ratios below 0.10%.  And finally, do not buy load funds, i.e., funds with sales charges.  That's an absolute no-no.

Stay away from the message boards.  These are chat rooms peopled by folks with a broad variety of intentions, some of which are downright harmful and misleading.  If tempted to read the trash that's put forth there, be warned that you will be in a dangerous place. The reality is that there's rarely a basis for what you may read and you can bet that serious investors will not participate.

Hedge funds are a great place to get clipped.  The average hedge fund has significantly underperformed the S&P 500 Index for many years.  For the privilege of doing poorly, investors in these funds typically pay a fee of 2% annually plus 20% of profits.  Although hedge funds might be fun to discuss  at cocktail parties, investing in them is just plain foolish.

Smart investing means seeks worthwhile returns without excessive risk exposure.  That means asset allocation based on such considerations as time horizon, risk tolerance, and need from current income.  An investor with a 20-year time horizon would be best advised to invest primarily in equities, both domestic and international.  But an investor with a shorter time horizon would want to reduce the equities and moderate interim fluctuations with increased holdings in fixed income and alternatives.

Keep your eye on the climate, not the weather.  Prices in all markets go up and down, but concerns resulting from the latest financial storms are largely wasted since they increase emotions that can lead to unwise decisions.  These storms will pass, but the long-term climate for the markets is summer.  Patience pays off handsomely.

N. Russell Wayne, CFP®


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