The 5 Stock Market Myths Every Trader Should Know

by Darrin Donnelly on May 10, 2012

Mottos and maxims are as much a part of Wall Street culture as stock charts and annual reports.  But regardless of whether these well-known sayings originated in a classic book, a popular movie, or hard-won trader experience, not all of them are true.

Here are five fairly common stock market clichés that are simply NOT true.  A wise trader can exploit these five MYTHS and profit from them.

Myth No. 1: Monday Sets the Tone for the Week

This is one of those sayings repeated constantly on news programs, usually at the beginning or end of a Monday session.  Yet, there’s really no truth to it.  In fact, Mondays are one of the most erratic days of the week for the stock market.

In my own experience, I’ve found that breakouts tend to have a higher failure rate if they occur on a Monday.  This is likely due to the fact that just as the “smart money” tends to act later in the day, it also tends to act more aggressively later in the week.  Therefore, late-week moves are a much better indicator of market conviction than early-week moves.

The Lesson: Consider making much lighter entries on Monday.  If you’re a short-term trader, consider avoiding entries altogether on Monday.

Myth No. 2: Times are Changing Fast and the “Old Ways” Won’t Work Anymore

Every few weeks, you’ll see some market guru on TV explaining why the old methods of investing or trading won’t work anymore.  It just so happens that most of these “experts” are usually trying to sell you their services, which offer you the keys to their “new” way to trade.

Yes, the stock market is a constantly-changing animal, but at its core the more it changes, the more it stays the same.

Discount brokers, program trading, ETFs, high-frequency trading, etc. have all changed the way the stock market works, but none of it really changes what the stock market is.

Ultimately, the stock market is one big speculation machine based on the emotions and opinions of individuals.  That will NEVER change.  And that’s why tried-and-true methods of the past (ranging from value investing to trend following to momentum swing trading) will always work if executed properly.

The Lesson: Find a method with a proven track record and stick with it, regardless of what you hear self-proclaimed “experts” say.

Myth No. 3: The “Little Guy” Can’t Beat the Market

It’s amazing that this myth is so easily accepted.  Despite the fact that money managers have a notoriously poor track record when it comes to beating the stock market, again and again we hear that the “little guy” doesn’t stand a chance against the “pros.”

Interestingly, Peter Lynch, the mutual fund manager with history’s best track record in beating the market, has actually written books proclaiming not only that the “little guy” can beat the market on his own, but that it’s EASIER for him to do so!

Remember, the massive marketing campaigns by financial companies are geared at doing everything they possibly can to convince you, the lowly amateur investor, that you can’t play this game and that you need to hand over your money to them.  They promise to take care of you.  Unfortunately for these companies, their track records often prove otherwise.

The Lesson: While it’s certainly not easy, someone who is truly committed to beating the market CAN do so.  It takes a lot of hard work, but it can be done.  In many ways, the “little guy” actually has a tremendous advantage over the large fund manager.

Myth No. 4: News Moves the Market

Every day after the market closes, news outlets will conclude that the day’s action – whether up or down – was due to some newsworthy event.  The fact is, on any given day, “good news” or “bad news” has little impact on the market.

A strong bull market will completely ignore “bad news” (remember the ‘80s?).  A bad bear market will continue to blow off even the most optimistic news items.

News does not move the market, emotion does.  In particular, fear and greed cause the market to move the way it does each day.

The Lesson: Ignore the news and follow the trend.

Myth No. 5: It Doesn’t Matter When You Enter, As Long As You’re on the Right Side of the Trend

This is an idea that’s been picking up steam in trend-following circles over the past several years.  It’s based on the principle that proper risk management will keep you out of trouble even if you were to enter the market completely at random.

The concept, in theory, is correct.  If you’re always operating with a 2-to-1 or better reward-to-risk ratio, hypothetically you’ll never get into too much trouble if every random trade has a 50-50 chance of being successful for you.  The problem is that not every trade has a 50-50 success rate, especially if you’re entering randomly and depending on a 2-to-1 reward-to-risk long-term outcome.

Plus, the objective of trading isn’t to stay out of trouble; the goal is to make a life-changing amount of money!

The Lesson: Your buy point is absolutely crucial to the success of your trading.  Buying at the wrong time will whittle away at your portfolio, no matter how well you’ve managed your risk.

 

These are just five well known stock market myths that are simply not true.  Don’t accept anything to be true just because you hear it often enough, especially when it comes to the stock market.

Do your homework and learn to separate the facts from the fiction.  Doing so will not only keep you from following the erroneous advice that everyone else is following, but it will also present you with tremendous profit opportunities.

 

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