When writing about investing, people often make grand statements to the effect that investment basics haven't changed in hundreds of years. This is true in the sense of "buy low and sell high," but in every other sense, investing has changed. In this article we'll look at some of the unique challenges modern investors face.
SEE: The Basics Of Trading A Stock
The Volume and Speed of Information
Perhaps the most daunting challenge that modern investors struggle with is the sheer speed and volume of information. In the past, solid information about publicly traded companies was hard to come by outside of the annual and quarterly reports. The Wall Street Journal and a limited number of finance related publications attempted to collect business news and spread it to others, but this news moved to the greater public at the speed of print – if at all. In order to be reported, a story had to be significant; and even then, it had to be written up, printed and delivered.
Now, even obscure companies produce a constant stream of information, from the daily price fluctuations in the stock to announcements and posts on dedicated message boards. When information floods in, it can be difficult to pick out what is important. Several challenges follow from this main source, and we'll look at each in turn.
SEE: Information Overload: How It Hurts Investors
Finding the Right Resource
The difficulty of finding the right resource is tied to the challenge of too much information. As an investor, how do you find the good resources in the crowd? To be clear, having a large amount of choice and easy access to some truly excellent free resources is an overall win for the modern investor, but it can sometimes make research more daunting because of all the choices. Investing does deal in facts – such as the definition of a bond or the proper calculation of ROI - but opinion colors many areas, such as whether technicals matter more than fundamentals. With time, many investors learn to filter out information and create a select pool of reliable sources that match their investing tastes. Until then, however, it is hard to avoid being overwhelmed by the range and variety of opinion out there.
The Reactionary Market
Even if you have a good handle on quality information, you can still get burned when inaccurate information or basic uncertainty hits the market. Inaccurate information still hits the market, even though the time to correction/exposure is often shorter. Inaccuracies can be honest mistakes, malicious rumors or even financial fraud on the part of corporations. More importantly, the financial markets are so addicted to the constant information flow, that often an interruption in the flow or genuine moments of uncertainty can be worse than bad news.
SEE: Some Good News Is Bad News For Investors
Market reactions have always been extreme, but the increasingly global reach of information has given investors more reasons to overreact per hour than at any other time. It doesn't take a great leap of imagination to see good or bad consequences with every headline that pops up in the feed.
The Choices
When does choice become overwhelming? There are conflicting studies about the limits of the human mind when faced with a variety of choices. Research suggests that we chunk choices into a manageable few (3-8). This works in an ice cream shop with five types of vanilla, but the world of finance offers far more than eight types of stock investment, let alone the field of investment as a whole. When faced with all these choices, we find shortcuts to "chunk" our options down to a few. This is useful, but it may also lead to us discounting the better option. For example, someone looking for regular income may chunk their options down to dividend paying utility stocks when they may have been better served by a dividend ETF.
The Role of Advertising
The marriage of investments and advertising has been a boon and a bane to investors. On one hand, advertising has helped familiarize investors with the wider range of investment vehicles available today. The modern investor is more aware of the investments beyond stocks, bonds and term deposits. Most will be able to explain about mutual funds, index funds, ETFs, and probably options and mortgage backed securities as well.
Knowledge is a great thing, but advertising can sometimes push an investor toward an edge by hyping an investment that isn't necessarily the best fit. Take mutual funds for example. Quite often, an investor with a limited amount of capital is better off taking the lowest fee investment option (index fund or ETF) compared to higher-fee, professionally managed mutual funds. Advertising, however, can change this relatively straightforward math by playing up the advantages of professional management while failing to mention fees. So, if the professional manager is not up to snuff, then advertising has cost the investors market returns plus the management fee.
The Bottom Line
It is true that some investors have been successful using traditional methods and simply shutting their doors against the modern world. This list includes famous fund managers Warren Buffet and John Templeton. For most of us, however, the flow of information is comforting and helps us feel more confident in our decisions. The trick is finding the right balance when taking in information and turning it into action. In fact, most investors can survive the modern information barrage with some very traditional advice – measure twice, cut once. In other words, take the time to evaluate the information in front of you before making buy or sell decisions.
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