Investing isn't complicated. But it is often counterintuitive. That's why some people stop trying to understand investing and just accept financial truisms (that are often anything but true). While this approach makes life easy at first, it can lead to needless losses and a lot of sleepless nights. Here are the top seven financial truisms you have to stop telling yourself and why.
1. "Investments are too complicated. I just can't understand how this works."
You don't need to be Einstein to figure out how to invest your money. Take it slow. You don't need to master this in one day. And you don't necessarily need a financial adviser either. There are some wonderful resources out there which are free. You can Google "How mutual funds work" or "how to invest for retirement" and get some very valuable information. Once you have a basic understanding of how investing works, get your feet wet by investing a little at a time. You can even find investing websites that will take the entire load off your shoulders and teach you about investing as you go. Just get out there and get started. Your will understand more as you get involved.
2. "My broker knows what she's doing."
Your broker might indeed know what she's doing -- but then again she may not. You need to find out for yourself.
Once you understand how to read your investment statements it will be easier for you to know. Go over the positions that are held in your account and ask her why they are there. Ask her to show you the historical performance of your account for the last five years -- year by year. And ask her to compare your performance with that of the S&P 500.
Use your gut. If what she says makes sense and your performance as compared to the S&P is acceptable, you probably are in good hands. But if the performance is way off or you just don't understand what your adviser is telling you, it might be time to make a change.
3. "Lower cost funds are always better choices."
If you are a Do-It-Yourself investor you might use index funds and ETFs because they are so inexpensive. It's true that these funds are typically far cheaper than mutual funds.
But cutting costs isn't your main purpose. Your ultimate goal is good performance with low risk at the end of the day. Some ETFs might be really inexpensive but who cares if the performance stinks or if they invest in very risky markets?
Make sure you understand how the ETF or index fund invests. And make sure those investments are consistent with your goals and risk tolerance. Also, keep in mind that mutual funds, ETFs and index funds always quote their returns net of expenses. That means if a mutual fund reports a 10 percent return and the corresponding index fund or ETF only reports 5 percent -- the mutual fund has done twice as well. The expenses aren't already taken into account. Don't be penny wise and pound foolish.
4. "It's just impossible to understand my monthly account statements. Why even try?"
Brokerage companies often make monthly statement complicated out of choice. The less you understand about your account, the more free reign they have with your money. Don't hand over this power. It's not that difficult to understand investment statements if you are patient.
Of course you'll have to overcome the subterfuge your brokerage firm throws at you but that's easy enough. Just make an appointment with your adviser or with someone who works at the discount brokerage firm you use as the case may be. Bring in your last three months statements and don't leave the office until you understand them from top to bottom. When you go down to meet with the broker, take a pen and a highlighter and make notes for yourself.
And don't worry if you still have questions later on or you forget something. If that happens, just march down to the broker for a refresher. That's what she's there for. It's your money. You have a right to understand your statements.
5. "I keep my 401(k) parked in cash. That's my retirement. I can't take any chances."
Your 401(k) is your long-term money so invest for the long-term. This nest egg will be the one you tap into after most all your other resources are exhausted. That's because any money you withdraw from your retirement accounts is completely taxable.
Because you will keep your 401(k) invested for as long as possible, it pays to be a bit more aggressive with this money in most cases. I'm not saying to throw caution to the wind of course.
But if you have a retirement account that's going to be there for 10 years or more, don't leave it in money markets earning less than 1 percent. Consider using a balanced approach. Over long periods of time, portfolios with at least some equity tend to do far better than those parked in cash or bonds. This isn't always the case of course, and the past doesn't guarantee future results. But the odds are good that you'll do far better with equity growth over the long run.
6. "I have to open a new IRA every year if I want the tax break."
You absolutely should deposit money into an IRA if you qualify to do so. But you don't have to open up a new account every year to accomplish this. In fact, in most cases, that's the last thing you want to do.
When you have several accounts all over town it is difficult to keep track. If you invest your IRA with a brokerage firm you won't have any problem simply adding money to your existing account. This way you take advantage of the IRA deduction but you won't have extra paperwork making your life that much more complicated.
There is one exception. If you buy CDs with IRA money (not usually recommended) you will probably have to open a new account every year unfortunately. That's another reason that I'm not a huge fan of using CDs for IRA money. Bad tone.
7. "As I get older I should invest more conservatively."
This is a little tricky because it's true in theory but false in practice. Here's what I mean. If you are 30 years old and you are going to retire at 65, you can easily invest for the long-term. But you can also invest for the long-term if you are 65. That's because even if you are 65 years old you still need your money to last at least as long as you will. A 65-year-old can expect to live another 20 to 30 years without breaking a sweat.
In my experience, these are some of the costliest "truisms" investors get trapped by. Before you make a financial decision, make sure you're doing so because it makes sense and because you understand what you are doing. If you take a little time and ask a few questions, you'll have no trouble doing so.
What other financial truisms have you found to be wrong? How did you discover this?
Neal Frankle wrote this post. He is a Certified Financial Planner in Los Angeles and blogs over at WealthPilgrim.com. He writes to help others make smarter financial decisions so they can enjoy their lives more. He's been in financial services business since 1986 and has been interviewed by the Wall Street Journal, Investors Business Daily, Business Insider, Consumer Reports, Smart Money, The Chicago Tribute, The Los Angeles Times, Forbes and TheStreet.com.