10 Financial Myths Busted by Jeffrey R. Kosnett
Friday, March 13, 2009provided by
Before
the economic rout, you could rely on certain iron laws of personal
finance. For example, it was a given that house values didn't fall.
Money-market funds never lost a dime. And no matter how ugly the
market, expert mutual fund managers could protect you from drastic
losses.Alas, in this Hydra-headed global financial crisis,
another generally accepted principle of financial strategy or economic
logic finds its way into the shredder almost every day. We gathered ten
truisms that no longer pass the test.
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MYTH 1: There's always a hot market somewhere.When U.S. markets began to blow up, you heard about "decoupling" and
"the Chinese century." The idea is that Asia -- or Russia or Latin
America -- can grow vigorously independent of the U.S. and Europe.
Invest there and you'll offset losses at home. Instead, Chinese, Indian
and Russian shares have crumbled. Net investment money flowing into
emerging-market economies fell 50% in 2008, to $466 billion, and is
forecast to sink to $165 billion in 2009.
Truth: In this age of globalization, economic downturns and bear markets observe no borders.
MYTH 2: Real estate behaves differently from other investments.Call it a bubble instead of a boom if you like, but it was supposed to
be "proof" that real estate returns don't strongly correlate with the
returns of stocks and other financial investments. The message: Rental
properties or real estate investment trusts can make money despite
drops in Standard & Poor's 500-stock index or the Nasdaq. Wrong.
REITs lost 38% in 2008 because the credit crunch and overly aggressive
expansion plans hammered profits and dividends. REIT returns used to
have little correlation with the stock market. Now they closely track
it.
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Truth: Real estate won't overcome other risks when credit problems are harming all investments.
MYTH 3. Reliable dividend payers are safer than other stocks.Companies recognized as dividend "achievers" or "aristocrats" --
because they could be counted on to increase their payouts regularly --
used to perform more steadily than most stocks. That's because
shareholders seeking income tended not to sell. But now shares of
dividend achievers can be as volatile as the overall market. One
reason: more mass trading of blue-chip stocks in baskets, a la
exchange-traded and index funds. Another factor: Banks, insurance firms
and real estate companies can no longer afford to pay high dividends.
Truth:Companies aren't too proud to stop increasing dividends. If you want
stable dividends, ignore the past and look for companies with lots of
cash flow.
MYTH 4. Foreign creditors can drain the U.S. Treasury overnight.Puny Treasury yields suggest that it's bad business for the rest of the
world to lend so much money to the U.S. But think: What else would
these investors do? And who has the power to impose this dramatic sell
order? Nobody. Foreigners own $3.1 trillion of Treasury debt. Of that,
$1.1 trillion is with private investors -- mainly pension funds, which
cannot safely ignore a class of investment that is absolutely liquid
and has never defaulted. Governments and institutional investors hold
the rest. On occasion they have sold more U.S. debt than they have
bought. But massive private buying has overwhelmed the modest pullbacks.
Truth: If what you want is super-safe bonds, the U.S. Treasury is the go-to place.
MYTH 5. Gold is the best place to hide in a lousy economy.In early February, an ounce of gold traded for $910. That's just where
it sat a year ago, when world economies weren't so bad off. But foreign
and domestic stocks, real estate, oil and riskier classes of bonds have
all tanked since, and now gold looks -- ahem -- as good as gold.
However, gold does not typically benefit from a recession. As inflation
slows, people buy less jewelry, industry uses less gold, and strapped
governments sell reserves to raise cash.
Truth:Gold tends to rally in prosperous times, when you have inflation, easy
credit and flush buyers (kind of reminds you of real estate. . . ).
MYTH 6. Life insurance is not a good investment.This canard spread as 401(k)s and IRAs supplanted cash-value life
insurance as Americans' most popular ways to build savings while
deferring taxes. True, the investment side of an insurance policy has
higher built-in expenses than mutual funds do. But two factors point to
a revival of insurance as an investment. One is guaranteed-interest
credits on cash values, which means that if you pay the premiums, you
cannot lose money unless the insurance company fails (see "Savings
Guarantees You Can Trust," on page 55). The other is the boom in life
settlements. If you're older than 65, you can often sell the insurance
contract to a third party for several times its cash value -- and pay
taxes on the difference at low capital-gains rates.
Truth: A good investment is one in which you put money away now and have more later. Checked your 401(k) lately?
MYTH 7. The economic downturn dooms the dollar to irrelevance.No question, the U.S. is deep in debt and going deeper while the
economy contracts. History teaches that when a country can't pay its
bills, lags economically and cannot control inflation, its currency
loses value. That's why currencies in Argentina, Iceland, Mexico and
Russia have all crashed within recent memory. The dollar does swoon,
and it's lost punch in places as unexpected as Brazil and India. But --
and here's the surprise -- as recession gripped the U.S., the dol-lar
got stronger. For one thing, there aren't many alternatives. For
another, some other currencies were temporarily inflated by oil and
commodities speculation.
Truth: The dollar has survived a tough test and remains the world's "reserve" currency.
MYTH 8. Mass layoffs reward investors.In the 1990s, news of layoffs would boost a company's stock for several
weeks. Stock traders lauded bosses for tightening their belts, so it
was smart to buy or hold the shares. But mass firings no longer impress
investors. Lately, firms as varied as Allstate, Boeing, Caterpillar,
Dell, Macy's, Mattel and Starbucks have all announced enormous layoffs
-- only to learn that, if anything, doing so spooks the market even
more. For example, on the day in January when Allstate axed 1,000 of
its 70,000 employees, its shares fell 21%.
Truth: Don't buy a stock thinking that a layoff will help profits. More likely, trouble's brewing.
MYTH 9. It's crucial to diversify a stock portfolio by investing style.Experts say a sound fund portfolio fills all "style boxes," starting
with growth and value. Growth refers to companies with expanding sales
and profits. Value describes stocks selling for less than the business
is worth. In 1998 and 1999, growth stocks soared and value stocks
stalled. Then, for a few years, value rose while growth got crushed.
But since 2005, the differences have been melting away. In the current
bear market, both styles have been disastrous, and it's hard even to
classify stocks as growth or value anymore. Many former growth stocks,
such as technology companies, are so cheap that they act like value
shares. Banks and real estate, once lumped into value, are a mess.
Truth: Pick mutual funds that are free to search for good prices on stocks, whatever their labels.
MYTH 10. A near-perfect credit score will get you the best loan rate.Before the credit bust, if you could fog a mirror, you could get a
mortgage. You know what happened next. But bankers still need to make a
buck, so it sounds logical that if you can show a strong credit score,
you'll win the best of deals on any kind of loan. Not so. Mortgage
lenders prefer large down payments. Credit-card issuers are just as apt
to reduce your credit line or raise your interest rate. And those 0%
car loans? Often they last for only three years, which puts the
payments so high you'll need to come up with more upfront cash anyway.
Truth: Credit is going to be tough to get for a while no matter what. So don't obsess over every few points of your FICO score.
Copyrighted, Kiplinger Washington Editors, Inc.
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