If you’ve been following the news from Wall Street, you know that just a handful of stocks had record returns recently. The most noteworthy example is Gamestop, where institutional investors saw an opportunity to make money by betting against its share price – a.k.a. short-selling.
Short-selling is a way to make money off the price of an asset when it drops. It’s legal, but it also adds volatility to the market.
Gamestop is an extreme example, but it’s an important one to pay attention to. How should you, as an investor, react to market pricing?
Gauging Stock Prices
It’s inevitable that you’ll see price swings in the markets. What goes into a price? Ultimately, it’s the discounted rate for the expected future cash flow of a company.
But that’s just what you see on the surface. A share price also includes investor confidence in that company, and that confidence can be easily shaken. So, prices are fickle. And short-selling is one way to capitalize on that instability.
If one share of a stock goes up in price tomorrow, it means investor confidence in that company has gone up, or the discount rate went down, making that stock a better deal.
Consumer Demand and Stock Prices
You can also view price through the lens of risk management. Some companies are riskier investments at different times.
Think about the pandemic: almost overnight, some previously stable and “safe” stocks became risky bets. Other companies, like Zoom, became even more essential, and demand went up (and took share prices with it.)
A risky investment will have a higher discount rate, which is reflected in the price. Paying attention to the prices of a stock can help investors identify investments with a better return. Trying to time the market, however, can result in lower returns over time.
The Pros of Passive Investing
Active investing has the appeal of quick returns and exciting opportunities, but if you want the best bang for your buck, passive investing is the way to go.
The trouble with active investing is that it historically underperforms compared to passive investing. Passive investing is all about the long game, and riding out the ups and downs of the market with a well-balanced, well-curated portfolio.
Making quick decisions based on a stock’s price change might work in the short term, but over the course of decades, passive investing tends to win out.
Factor in your level of risk tolerance, portfolio mix and years until retirement when you’re considering riskier, more active investment moves. You can also work with a financial planner to help you finetune your investments and come up with a plan that will have your back long-term.
Do you need help getting your finances organized? Contact me today to set up a meeting to talk about your goals. You can also download my free ebook for physicians for tips and information about getting your finances on track.