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Greg Gildea Mr. Campbell English 1102 2/13/14 The Stock Market: The Best Place for Your Money The stock market allows individuals to invest in publicly traded companies by buying shares, also known as stock or securities, in a desired company through a variety of different exchanges, the New York Stock Exchange and Nasdaq being the two most popular in the U.S. . These shares entitle the owner to a percentage of the income and net worth of the company. Over time the stock market has proven to be one of the best ways for investors to grow their wealth. Today however, almost half of Americans refuse to expose their hard earned capital to the ups and downs of the market. According to a CNN Money and Gallup Poll Stock ownership among Americans is at a record low. Just 52% of adults say that they or their spouse own any stocks, either individually or through funds. What is it that keeps the other 48% of Americans from investing in a highly profitable market that increased approximately 30% in 2013? The fact the United States is just starting to recover from its worst economic crisis since the Great Depression, along with other current economic woes such as the nations growing debt and the instability of the banking system maybe scaring away some investors. However, there appears to be another factor that could be keeping a large portion of Americans from benefitting from the stock market that recently hit an all-time high. According to the same Gallup Poll, only 65% of Americans were invested in 2007, before the recession, before the European debt crisis emerged, and before the government started bailing out banks. This indicates that current economic conditions may play a role keeping away

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some investors, but more importantly, it reveals that even in better economic times there are other deterrents keeping a large portion of Americans from benefiting from the stock market. One of the major deterrents may be displayed through Bank of Americas Bridging the Knowledge Gap Survey conducted by New Harris, which shows how 43 percent of U.S. adults believed they missed good financial opportunities due to their lack of knowledge and nearly four in five U.S. adults (78 percent) believe it is difficult to learn about personal finance. The lack of knowledge about personal finance and investing, along with the fact 32 percent of Americans are making roughly $15,000 a year (Huffingtonpost.com) and might not have available funds to invest, could be the main reasons why so many citizens never invest in the stock market and instead invest in a more accessible and safer government insured savings account or bonds. Not knowing much about the stock market definitely appears to be a valid reason to stay out. However, it is important to understand investing in the stock market can be extremely simple and that it doesnt necessarily call for an abundance of prior knowledge or assistance to get started. There are countless investment firms out there that will help guide you through investing and although they do provide some helpful resources, many Americans will actually be better off investing on their own. Investment firms provide many different options for investors to choose from. Today, according to Investopedia, mutual funds are the most popular choice. Most Mutual Funds are made up of typically 50-150 different stocks handpicked and managed by individuals working for an investment firm. Mutual funds provide benefits such as diversification and offer the potential of receiving higher rates of return than market averages (S&P 500, Dow Jones Industrial Average) due to their professional management, but these

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benefits do come at a cost. Mutual funds typically charge an annual 1-2% management cost as well as a small purchase fee. Now 1-2% may not seem like much but when youre dealing with a retirement or college fund, that will be accumulating for many years it adds up to a substantial amount. What many Americans arent aware of is there are other investments out there such as index funds and ETFs that have less management costs, give you more diversification, and have even outperformed majority of mutual funds. (Vanguard. Case for Index Funds). Investing in index funds or ETFs is one of the best and simplest ways for Americans to be successful in the stock market. These funds allow investors to own stock in more companies at a much more affordable price than buying the stocks individually. Stocks that make up index funds or ETFs are not picked individually, allowing them to avoid a substantial amount of the management costs Mutual Funds have. Instead they are made up of all the stocks in a market basket, such as the Standard and Poors 500 (500 large U.S. comapnies) or the Russell 2000 (2000 small U.S. companies). Warren Buffet, arguably the best investor in history according to the Wall Street journal, sat down for an interview with thestreet.coms Antoine Gara, who asked Buffet for his opinion on how average Americans should invest in the stock market. Buffet went on to say, My advice could not be more simple: Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund. Buffet also mentioned the fact, A very low-cost index is going to beat a majority of the amateur-managed money or professionally-managed money. ETFs and index funds are not only attractive investments because of their low costs and solid returns they have also proven to be one of the safest investments overtime have proven to be relatively safe due to their vast diversification. For example if an individual purchased the

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SPY ETF, which is made up of all the stocks in the S&P 500, at the worst period in their life time, right before the 2008 recession, the individual could still sell that ETF today an receive a 21 percent return on that investment, not including 6 years of dividends paid to the ETF holder (as of 3/19/14). Although it may be easy to see this after the fact, investing in index funds or ETFs that are made up of all the stocks in the S&P 500 have outperformed another popular investment, U.S. Bonds, from 1928-2010 and on average will produce approximately a 9 percent return annually (Motley Fool 1928-2010). The stock market also provides opportunities for investors willing to take more risk in hopes of earning larger returns, and just like with ETFs and index funds it doesnt take an expert to find these opportunities. Peter Lynch, author of The New York Times best seller One Up on Wall Street and the most successful money manager from 1977-1990, claims any average American can pick stocks just as well, if not better, than the average Wall Street expert. When it comes to purchasing individual stocks Wall Street experts may be more knowledgeable about what to look for on a companys income statement, balance sheet, and other financial records but when it comes to the actual product and service of the company, which in reality dictates those financial statements, an average American may have the upper hand. For example does one of Fidelitys stock analysts know if the new Grand Theft Auto video game is going to sell a million units and beat estimates better than a teenager who is online raving about it? As Peter Lynch writes You might have assumed its the sophisticated and high-level gossip that experts hear around the Quotron machines that gives us our best investment ideas, but I get many of mine the way the fireman got his I stumble onto the big winners in extracurricular situ ations, the same way you could. Picking a stock can be as simple as finding the next biggest trend in a

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certain field and in some circumstances the average consumer is more likely to pick up on these trends better than the millionaires working on Wall Street. Warren Buff et says it best, Wall Street is the only place where people drive to in their Rolls Royce to take advice from those who took the subway. Fund managers are trying to predict what and where average consumers are going to spend their money on this year and that is something middle income Americans may be more knowledgeable about. Wealthy Wall Street investors are typically not the ones waiting an hour to get a table at Buffalo Wild Wings on the weekends (BWLD up 79% year to date) or chatting with their coworkers about the last season of The Walking Dead they watched on Netflix (NFLX up over 200% last 2 years). It doesnt take an Ivy League degree or years of study market trends to find these breakthrough stocks and if you keep your eyes peeled and follow one of Lynchs main theories and invest in what you know theres a chance youll stumble across a big winner as well. However, it is important not to completely forget about a companys financials, including the firms debt, and important ratios such as the Price to Earnings ratio (P/E) or the Price Earnings to Growth ratio (PE/G). Even this can be extremely simple, in most cases the ratios are already calculated for you, as Lynch explains, All the math you need in the stock market you get in the fourth grade. But with the unlimited potential upside of individual stocks compared to safer S&P 500 index funds, you may wonder, whats the best strategy? The question cannot be answered directly, due to the different circumstances of each investor. However, by exploring data and professional opinions you may be able to determine which is best for you. First off, you have to ask yourself some basic questions about investing. Do you have time to check up on your investments weekly or even daily? Can you handle losing

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money, financially and mentally? If the answer is no to either of these questions then you should typically stick to index funds and ETFs. For the reasons being, individual stocks require you to frequently keep up with the companies youre invested in to ma ke sure the reasons you originally bought the stock are still relevant. Also individual stocks do have more of a potential of going down and staying down, than diversified index funds and ETFs do, either way it is important to make sure you are prepared for losses in some circumstances. Although you may not get the extraordinary returns you could receive with individual stocks, data and research shows investing in index funds and ETFs may still be a better choice. One of the surprising but well-known facts on Wall-Street, that Buffet and Vanguard both touched upon earlier, is how low cost ETFs and index (made up of S&P 500) funds have typically outperformed majority of professional money managers. Even though professional money managers have many more obstacles than the average investor, this still displays how investing in individual stocks that outperform the S&P 500 isnt always easy. Another piece of evidence that presents the difficulties of picking individual stocks is The Efficient Market Hypothesis and Its Critics by Burton G. Malkiel, an economics professor at Princeton University and author of A Random Walk Down Wall Street. Makiels research studies and disproves many in-depth methods that supposedly can use factors such as interest rates, psychological behavior, and companys fundamentals (finances) to predict future stock prices. He goes into depth disproving each theory along with claiming they are the result of data mining, Given enough time and massaging of data series, it is possible to tease almost any pattern out of most datasets. He then concludes with his main point Moreover, whatever patterns or irrationalities in the pricing of individual stocks that have been discovered in a search of

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historical experience are unlikely to persist and will not provide investors with a method to obtain extraordinary returns. Makiel does a great job proving the fact that there is no proven algorithm that can pick a winning stock consistently but was it really impossible for the average consumer to predict Netflixs and Buffalo Wild Wings outrageous gains? That is something each investor will have to answer for themselves. Although the stock market has proven to the best investment platform, it is not the only option. The safety U.S. bonds and a simple savings account provide have always made them a popular investment for Americans. The main advantage U.S. Bonds and savings accounts have over the stock market is that they dont force investors to necessarily risk their money. However, this advantage comes with a very small upside on these investments today. According to Bankrate.com most big banks are paying less than 1% a year on their savings accounts, that doesnt even make up for inflation, which on average from 2003-2014 was increasing 1.5% annually. That means saving account holders are actually losing value of their money just letting it sit in a savings account. Bonds are a slightly better alternative to a simple savings account and have some potential upside but today, with interest rates being as low as they are, the advantages arent much. For example today an individual can purchase a 10 year U.S. bond and lock in a 2.73% annual return on that investment for 10 years. If the individual wants to sell that 10 year bond and take out their money prior to maturity (10 years after purchased) than they are vulnerable to one of two things happening. If interest rates go higher than the locked in rate of 2.73% than the individuals bond will become less valuable and if sold, the investor will lose money on their investment. On the other hand, say interest rates on 10year bonds went lower than 2.73% the investor can sell his bond and make a capitalized gain

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along with the 2.73% in annual interest for the years before it was sold. This displays how bonds do have a potential risk and upside, unless the investor waits for their bond to mature and just collects the locked in interest. Today however, interest rates are at their lowest levels since the 1950s according to the New York Times and have a very small chance of producing any substantial returns in the long run besides very small annual interest. Interest rates will start to increase in upcoming years but S&P 500 ETFs or index funds have outperformed U.S. bonds and other high yielding bonds on average from 1928-2014 (Motley Fool 1928-2010). Overall, the best place for your money has proven to be the stock market in the long run, but that doesnt necessarily mean it is right for everyone. The stock market definitely has its ups and downs and watching yourself lose 10% of your investment or even 50%, as many investors did during the 2008 recession, may be hard for some individuals. Thats why investors looking for a quick short term return or investors who dont have money they can afford to live without for the next couple years should typically seek other investments that arent as volatile in the short term. This is because stock prices and the economy can be influenced by unpredictable events at any moment, like we are witnessing today with the uncertainty in Ukraine, which is having negative effects on the market. Nevertheless, the United States economy and stock market have been resilient over the years. Whether it was the Great Depression which sent unemployment over 20%, the dangerously high double digit inflation our country experienced in 1979-1981, or the 2008 recession that sent some of the worlds largest companies to the brink of bankruptcy, the United States stock market has always bounced back stronger than before. So the question you have to ask yourself; can you really afford not to have your money in the best place?

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Works Cited Lynch, Peter, and John Rothchild. One Up on Wall Street. New York: Simon & Schuster, 2000. Print. Malkiel, Burton G. The Efficient Market Hypothesis and Its Critics. Journal of Economic Perspectives Volume 17. Number 1 (2003): 5982. Web. 25 March 2014. Mutual Funds: Introduction. Investopedia. Investopedia U.S., 25 Feb. 2009. Web. 15 March 2014. Phillip, Christopher B., and Joshua M. Hirt. The Case for Index Fund Investing. Vanguard. 2014. 1-19. Print. Saad, Lyndia. U.S. Stock Ownership Stays at Record Low. GALLUP Economy. Gallup inc., 08 May 2013. Web. 15 March 2014. Gara, Antoine. Warren Buffett Pitches Vanguard Index Funds for Mom-and-Pop Investors. The Street. TheStreet inc., 02 March 2014. Web. 25 March 2014.