September 24, 2020

Investing Principle #6: Invest as If Markets Are Efficient

At a neighbor’s garage sale, you notice a Babe Ruth rookie baseball card on sale for 25 cents. Obviously, your neighbor is not a big baseball fan, since this card is worth tens of thousands of dollars. Just as you are about to hand over a quarter, another neighbor walks up. She also knows the value of the card is way more than 25 cents and offers $5. Pretty soon, you and your neighbor are having a bidding war, until the price you pay for the card is close to its actual value. And it only took one additional participant to get there.

Financial markets work similarly on a larger scale, with millions of investors buying and selling stocks, bonds, currencies, commodities, and more each day to determine the fair market value. Because markets usually do a good job incorporating all publicly known information into prices, investors are better off acting as if current prices are correct instead of trying to guess their future direction. This also allows you to focus on your overall financial plan instead of trying to predict how markets will react to headlines.

I know we have all heard stories of people finding that diamond in the rough, be we can’t stake our future on always being able to find that diamond. If it were easy, everyone would know where to look for the diamond and instantly there would be no more diamonds.

As I’ve stated before in this blog series, focus on your individual plan and behavior for the greatest possible success!