Common investing myths debunked

18 November 2016

In the world of investing, there is no shortage of tips and guidance available, particularly online. But the investing arena is also full of myths too - we look at some of the biggest and highlight the reality.

The value of investments can fall as well as rise. You may get back less than you invest. Tax rules can change and their effects on you will depend on your individual circumstances.

What you’ll learn:

  • Why you should never rely on past performance.
  • Why dividends don’t always rise.
  • Which bonds should never be seen as risk-free.

If you’re new to stocks and shares, the glut of information at your disposal can seem especially intimidating. It’s vital to separate fact from fiction though before you start investing.

The myth: Investing is the preserve of the rich

The reality: There has long been the misconception that investing is only for those with significant amounts of disposable income to hand. While long ago, this might have been the case, at present it’s anything but. However, if you want to invest, have sufficient back-up funds in savings and are comfortable taking on the risks involved, these days you can quickly and easily open an account with an online investment service, such as Smart Investor.

In many cases you can get started, typically for as little as £50, which could be invested into a fund holding a wide range of stocks. Of course, investing comes with risk and you could get back less than you invest. If you have substantial debts, such as personal loans or money owed on credit cards for example, you’d be better off clearing those before you start looking at investing.

Find out more about how to start investing

The myth: Past performance can be a reliable indicator of future returns

The reality: When it comes to investing, past performance should never be viewed as a definitive guide to future returns. However, when it comes to picking funds and shares, many individuals are understandably tempted into buying an investment with a great track record. But today’s star could be tomorrow’s dud. At the turn of the 21st century for example, investors piled into technology stocks, sending their values to dizzying heights. But by the time the tech bubble burst in 2001, many investors who had previously been convinced that these shares would continue to flourish were left nursing some hefty losses. It’s worth your while doing some research to ascertain not only how good a firm’s future prospects are but also how robust a business it is.

Find out more about the importance of understanding risk and return

The myth: Dividends always rise

The reality: Dividend producing shares and funds are perennially popular with investors – and with good reason. Investors can choose either to take these payouts as income or instead, reinvest the proceeds, which can potentially provide a significant contribution to their future total wealth. Research from Capita Asset Services shows that in 2016, dividends from UK plc, are predicted to increase to £82.5bn, marking a 3.8% rise on last year’s total, although of course this is only their view and isn’t guaranteed. But while firms look to maintain, if not increase their dividends every year, not all will manage this. Dividends can be frozen, lowered or even cancelled altogether, which will hit investor returns and typically the value of their shares as well.

Find out more about how to spot a long term winner

The myth: Bonds are risk-free

The reality: Bonds – fixed-term IOUs issued by governments and companies looking to drum up cash, are generally perceived as safer, or at least less volatile, than shares. However, there are plenty of risks to consider. In exchange for lending your money, a bond issuer will pay you a fixed rate of interest and when the investment matures, you should get your money back in full, provided you invested at launch. But sometimes an issuer could find itself in financial trouble and unable to meet interest payments and/or repay investors’ capital when it’s due. To get an idea of how risky a particular bond is, look at its credit rating, which is an assessment by a specialist agency of the risk of a company or government not paying back its debt. The lower the credit rating, the riskier the investment.

Find out more about bonds and gilts

The myth: Active always beats passive investing

An actively managed fund is a portfolio run by a professional fund manager who buys and sells stocks on behalf of investors. Their ultimate aim is to deliver a superior return to the market they’re investing in. On the other hand, passive funds, such as index trackers and exchange-traded funds (ETFs) simply mirror the performance of a particular index, for example, the FTSE 100. The debate over which strategy is better has endured for years. Proponents of active investing typically highlight the fact that passive funds, when costs are taken into account will always underperform their market. In addition, if shares take a dive, there’s no manager in place to protect investors from losses.

However passive fund charges are typically much lower than active fund costs and it has often been argued that active managers, despite charging much more, often fail to outperform on a consistent, year-in, year-out basis. Even the world’s most famous stock-picker Warren Buffett, has often extolled the virtues of passive investing. Ultimately however, which is right for you, will depend on what your financial goals are. But many investment professionals would say that both styles probably have a place in a well-diversified investment portfolio.

Find out more about active and passive funds

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