Pick a Lane: Individual Stocks vs Index Funds

We’ve done our best to let you in on simple saving hacks (and some advanced ones) you can use to put away more cash every month. However, the reality is that not everyone is able to set aside a substantial amount. If you are fortunate enough to have some money to invest, you may be racking your brain trying to decide which way to go. If you’re not playing with the kind of cash it takes to diversify your portfolio, or, if you don’t have the time to spend understanding exactly how it all works but you’re still weary of withstanding losses — listen up.

Stock Market Basics

You’re considering investing in the stock market — likely because you’ve considered other channels such as real estate, and found them to be out of your budget, too time consuming or too advanced. Well, it’s important you don’t make the mistake of viewing the stock market as a fool’s game, where winning is pretty much guaranteed if you hitch your wagon to the shiniest, fastest horse. There’s a lot more to it.

The international stock exchange is a complex market of buyers and sellers, in which supply and demand changes by the minute, and global circumstances such as resources, trade and politics play a major role. A company’s stock may be soaring for a month, a year or even five years, and then unexpected circumstances may send it plummeting at warp speed. History is full of these examples, as well as converse examples of stocks soaring after a period of slump or plateau. Brokers who invest in companies that are of the latter variety often attribute earnings to their expertise and savvy investment strategy. The truth, however, is that often it’s nothing more than pure dumb luck.

The Racetrack

When choosing a financial advisor to invest with, you’ll likely receive various dog & pony shows of “high” year over year returns, promises of low risk and even lower maintenance costs. At best, you’re likely in for average returns that are only slightly higher than you would’ve made by tying up your money in a long term savings plan. The only difference is that you’ll be paying copious amounts in fees for years, essentially backing your advisor’s yachting or golfing hobby.

So what do they do with their fancy finance degree? Why do they spend hours and days analyzing every market trend and scrutinizing every company’s books? And how come they drink so many RedBulls? Oops, we digress. The point is: They should be doing a better than they are at picking stocks, considering they’re experts. Except… They can’t all be experts, so what you’re left with is an average yield based on an average of the financial firm’s investment portfolio which may have a few shining stars, and more than a few duds.

Going the individual stock route is akin to cruising down a race track with a learner’s permit, surrounded by Ferrari’s: Sure, you may get by, but everyone around you is going to whizz by you. Time and again, studies have shown that the best strategy for investing successfully in individual stocks is — literally — to pick them at random. Don’t despair; we have good news.

The Carpool Lane

Even if individual stocks aren’t for you, you can still see substantial returns by picking a sounder investment route, that requires very little prior knowledge and a modest budget. We’re talking about Low-Cost index funds, which may not sound as exciting (they aren’t) but are much less likely to lead to financial ruin — and that’s something to get excited about.

The way index funds work is that they go up or down based on the performance of the market as a whole. This means that in the long term, all you need to ‘factor’ in your decision is whether you project that the market will go up or down. Yes, the entire market, not just a couple of unicorn start-ups or even long established public corporations such as Amazon and Apple. Sure, we may see a recession or two in the future; new companies will rise and fall, making way for new companies to do the very same. All in all, the economy is projected to continue growing in upcoming decades — and so is your index funds-based portfolio.

It can be tough to make the call to stay away from the exciting, restless stock market. The highs seem spectacular, but you rarely hear of the lows — but there are just as many, since in the end, it’s a zero-sum game. If you’d rather forfeit a chance to hit it big for fear of the equal chance to lose big, place your money in index-funds and keep it there until you need it. You’ll be in for a very nice surprise in retirement.

Originally published at gochange.co on August 21, 2017.