There seems to be this belief among a lot of people that the world is rational and that bad ideas won’t last long because they’ll be extinguished by good ones.
I think this leaves out one big thing: incompetence. And, sometimes, a lack of experience.
You’ll hear people say “That was a stupid commercial” and then some smartass will reply, “Well, if it didn’t sell, it wouldn’t be on TV!”
Just because something is a bad/ineffective commercial doesn’t mean it will be removed anytime. I once worked in a company, for example, that was doing a horrendously bad job marketing–literally spending hundreds of thousands of dollars a month without bringing in more than a FEW clients–and yet the bad idea wasn’t extinguished.
Similarly, one of my favorite psychology studies is about how people are not only incompetent, but they don’t know they are incompetent. I love the title: Unskilled and Unaware of It: How Difficulties in Recognizing One’s Own Incompetence Lead to Inflated Self-Assessments (read it here).
This is true in personal finance, too. Again, sometimes it’s incompetence and other times, simply a lack of experience. But the results are the same: the wrong ones.
WSJ reporter Jonathan Clements recently wrote an article about why people keep their money in actively managed mutual funds with, as he puts it, “wretched records.”
What is surprising is the patience of investors in large funds with dreadful results. Yes, some funds will inevitably be below average. But why stick with them?
One possible explanation is shareholders may be reluctant to cash out because they don’t want to pay the resulting tax bill. But I am not buying this argument.
Poor performance…doesn’t prompt existing shareholders to rush to sell. “My guess is that most investors are unsophisticated and they are going to hang on until they need the cash or they meet their goal,” Prof. Johnson says.
Full article: Why Otherwise Good Investors Cling To Mutual Funds With Lousy Records (login required).
Just because something has been around for a long time doesn’t mean it’s good. Daytrading, almost all actively managed mutual funds, and technical trading strategies all come to mind. They can be good, of course. But honestly, over the long term, probably not.
And with personal finance, the majority of Americans have no training or basic knowledge of personal finance. Hopefully we’re all getting there together. As a result, we can see that just because an idea has been around for a long time doesn’t necessarily mean it’s a good idea.
This post is dedicated to the following:
- Parents who tell their kids to invest in government bonds or the safest option in their 401(k)s
- Radio-show hosts who tell their listeners to invest in gold or complicated tax-sheltered annuities at the age of 25
- Friends who read about a “Hot Stock!!!” in BusinessWeek or Forbes or Fortune and then invest in it without recognizing that publishers have to sell magazines