“Penny stocks give better returns than normal stocks”! “Just buy this stock and forget about it”! “This sector will never perform well”! Have you heard these myths from your friends, news channels or investment gurus? Yes, these are all actually myths! These myths can cause an investor to underperform in the stock market & can even lead to losses! Let’s understand all the myths which retail investors believe.
Let’s take a quick look at all factors before diving into the details.
- Low priced stocks are better investment than high priced stocks
- Some stocks are “Buy and forget” stocks
- Regular profit booking makes big money in the market
- Stock A has been performing much better than Stock B, so now it’s Stock B’s turn
- A stock where block deal took place is a good investment
- Stocks at 52 week high are risky investments
- Monopoly stocks are better than other stocks
- Only penny stocks can become multibaggers
- Stock split is good for investors
- You should never invest in a loss-making company
- Only stocks with low P/E ratio are good investments
- I don’t like this sector, it will never give any returns
- Mutual funds have an advantage over retail investors
Myth #1 – Low priced stocks are better investments than high priced stocks
This is the most common myth amongst retail investors. Why buy 1 stock of Reliance Industries when you can buy 200 stocks of Vodafone Idea for the same price, right? WRONG! There is no relationship between a price of the stock and the rate of return of the stock. For some reason, retail investors think that it is a lot easier for a Rs. 100 stock to double compared to a Rs. 10,000 stock. As an investor, we need to consider only the fundamental factors of the business such as the potential business growth and the price at which the company is currently valued (which can be measured using the P/E ratio).
If the stock of a company is available for Rs. 10,000 and the company is poised to grow well in the future, then it is a much better investment opportunity compared to a Rs. 100 stock which is struggling at the moment. To learn more about how to select stocks for investment, visit – How to choose your first stock?
Myth #2 – Some stocks are “Buy and forget” stocks!
Many blue chip stocks are touted as a “Buy and forget” stock in the retail investor’s terminology. News channels, media outlets, investment gurus, etc. sometimes mention a few stocks which are evergreen stocks i.e. you can never go wrong by buying these stocks. Just buy these stocks and go to sleep, they say! However, this strategy can be extremely risky for any investor. In a dynamic world of today, where companies need to constantly improve & innovate in order to grow in the future, no stock is a “Buy and forget“ stock.
As per the NSE report on Nifty 50, there have been only 12 companies which have stayed the part of Nifty 50 since the inception of the Nifty 50 index. This means that most of the blue chip Nifty 50 companies have fallen from grace. Stocks which were once considered as “Buy and forget” stocks have lost their value eroding the wealth of the investors!
Myth #3 – Regular profit booking makes big money in the market
Many investors like to regularly book profits in the market. It makes a lot of sense intuitively to book profits when the markets are doing well. However, what these investors don’t realize is that they often miss out on the biggest moves which the markets have to offer. Regular profit booking can lead to small profits which might look like a smart move in the short run. But adding up the small profits, it is sometimes prudent to just stay invested in the market to get the full returns which the market has to offer. A profit booking only makes sense when an investor is convinced that the price of the stock cannot go much higher due to fundamental or technical reasons. To learn more about this, visit the article – Is regular profit booking better than long term investment?
Myth #4 – Stock A has been performing much better than stock B, so now it’s stock B’s turn
Retail investors think about the stock market as a balanced place where everyone will get their turn. They think that since Stock A has been performing so well for the last few months, it will now stop giving any returns. On the other hand, Stock B (which the retailers are probably holding) which has been underperforming for the past few months will now start to outperform the market. However, there is no such thing as balance in the market! A strong stock can keep on performing well in the market & a beaten up stock can remain beaten up for a very long time. In fact, it is considered prudent for stock investors to make a switch from beaten up stocks towards strong stocks during market correction when everything is available at a discount.
“The market can stay irrational longer than you can stay solvent.” ~ John Maynard Keynes.
Myth #5 – A stock where block deal took place is a good investment
Many retail investors track stocks where a recent block deal has taken place. A block deal sounds like a big investor entering a stock which makes retail investors think that the stock price will go up. However, that is not the case! A block deal is simply a transaction which takes place between two parties – one buyer and one seller. A previous investor of the stock wants to exit the stock & a new investor wants to enter the stock. Since the big investors are interested in buying and selling huge quantities of stocks, they do not want to do the same in the open market. Rather, both parties come to an agreement to transfer the stocks from the old investors to the new investors. So, both selling and buying are involved in a block deal. Does that give any signal that the price of the stock will go higher due to a block deal? The answer is NO! Block deal is simply a transaction – nothing else. To learn more about block deal, visit this article – Is block deal good for a stock?
Myth #6 – Stocks are 52 week high are risky investments
Stocks which are currently trading at 52 weeks high are considered to be a risky investment by most retail investors. Why buy a stock which is at its high when another stock is available at a big discount, right? WRONG! The stocks which are at their all time high are often the stocks which belong to the strongest sectors within the market. These sectors can keep on doing very well for months or even years to come. Just because a stock is at a 52 week high, doesn’t really mean that it is a bad investment.
An investor can never make big wealth in the market if they book profits as soon as the stock approaches a new high. Remember, every single high which the market has made in the previous years has been taken out & it will continue to happen because the markets (over a long period of time) tend to remain in an uptrend.
Myth #7 – Monopoly stocks are better than other stocks
Many investors believe that monopoly stocks are better than other stocks because monopoly stocks have no competitors. No competitors means no fear of running out of business. While being in a monopoly is certainly an advantage, it doesn’t guarantee good returns to the investors. A company can provide good returns even if it is a highly competitive sector as long as it performs better than its peers. On the other hand, a monopoly stock which is highly overvalued (generally monopoly stocks tend to be overvalued) can provide a bad return or even a negative return to its investors. There is no guarantee that a monopoly stock will make money for its investors!
Myth #8 – Only penny stocks can become multibaggers
This myth is an extension of the first myth which investors have – Low prices stocks are better than high priced stocks! It might seem obvious that a stock which trades at Rs. 100 can easily become a multibagger whereas a stock which trades at Rs. 10,000 can never become a multibagger. The stock is already at Rs. 10,000, how much higher can it go from here? However, history has given us many examples of stocks which have become multibaggers despite their high stock price. Consider an example of Berkshire Hathaway whose stock price is currently trading at $447,155 (price at the time of writing). Imagine an investor who thought that the stock price was too high in 1983 when the stock was trading at $1300. Just because the stock price looks high, doesn’t mean that the stock cannot become a multibagger.
There are many examples of stocks in the Indian stock market such as TCS, Infosys, Reliance, ITC, etc. which would have looked extremely expensive if no stock split would have taken place. The price of these stocks look fairly small today even after years of compounding because these stocks have split multiple times over the past few decades! This brings us to our next point.
Myth #9 – Stock split is good for investors
Stock split is considered to be a celebration amongst retail investors. Imagine having 5 stocks in your portfolio which suddenly increase to 50 stocks because the company has decided to split the stock 10:1. However, a deeper introspection would show us that even though the number of stocks have become tenfold, the price of the stock has gone down by 10 times. Overall, nothing has changed fundamentally! Many investors make the mistake of buying stocks just because the stock is about to split. This can be a very bad strategy because there is no fundamental change which happens during a stock split. To learn more, visit this article – Why stock split doesn’t change the value of the company?
Myth #10 – You should never invest in loss making companies
Loss making companies are a big no-no for many investors. However, there have been examples of loss making companies which provided amazing returns to their investors. A classic example of a loss making company which became highly successful is Amazon. Amazon was a loss making company in its early years, but it is now one of the biggest companies in the US stock market. Just because a company is currently loss making doesn’t mean that it can never turn profitable.
However, unless the prospects of the company’s business are very bright, it might be a good idea for investors to stay away from loss-making companies. A risk-averse investor should always ignore loss-making companies but it should be on the radar for all investors who have some risk taking capabilities.
Myth #11 – Only stocks with low P/E ratio are good investments
Some retail investors only run after companies which have a low P/E ratio. Just because the P/E ratio of the company is low doesn’t mean that it would be a great investment. There have been many examples where companies have stayed at abysmally low P/E ratios of under 5 for many years because of a lack of growth in the business of the company. An investor should not only look for a discount when investing in a company. There are many other factors which an investor should consider when investing in a business. Sometimes, a high growth company which is trading at a high P/E ratio is better than a poor growth company which is trading at a low P/E ratio. To learn more, visit this article – Why do some companies trade at a high P/E multiple?
Myth #12 – I don’t like this sector, it will never give any returns!
There are some sectors which are disliked by retail investors because they have not provided good returns in the past few years. The stock market often breaks such opinions which are formed by investors! It was very common to hear “Pharma sector never performs” before the Covid 19 pandemic happened. Also, it was very common to hear things like “PSUs have never given any returns!” before the reforms in the banking system. Just because a sector is not currently performing well doesn’t mean that the sector will keep on underperforming. An investor needs to understand that sectors perform well or poor depending on the current market cycle. To learn more about the market cycle, visit this article – Why do Stock Markets go through cycles?
Myth #13 – Mutual funds have an advantage over retail investors
Retail investors think that mutual funds have all the advantages over retail investors. They have more money, more information, highly skilled fund managers who can out-compete the retail investors easily. However, one big advantage which retailers have is their small size! Having a small sized portfolio allows a retail investor to enter and exit the market as he/she seems fit. Not having the ability to move the market is an amazing superpower which only retailers have when investing in the stock market. Imagine the plight of a mutual fund who wants to buy 1 Crore share of TCS for its fundholders! Just buying a few thousand shares of TCS will cause the price to rise which means the mutual funds would be forced to buy at higher and higher price. On the other hand, retail investors never face such problems during their investment. To learn more about the advantages which a retail investor has over a mutual fund, visit this article – 5 reasons why retail investors have an advantage over mutual funds!
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DISCLAIMER : I am not a financial advisor. I am not for or against any company which I have mentioned in this article. All the information provided here is for education purposes. Please consult a financial advisor before investing.
Contact me at investmentabshuru@gmail.com
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Excellent! Very useful. Most of the retail investors have these myths including me. Fear of touching the high value shares and running after penny stocks. Thanks a ton.
Thanks Vijayan Ji for the kind words!