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OPINION | SAVE YOURSELF: Hot stock of the moment often comes with hidden costs

by Sarah Catherine Gutierrez | February 23, 2021 at 1:56 a.m.

I have observed two main camps when it comes to investing fears: Those who are paralyzed by the thought of investing and those who are worried they are missing out on the winning investment. I fret most about the first camp, but today it's worth addressing the latter.

We have talked about FOMO (Fear of Missing Out) before, and my investment FOMO radar is detecting rapid movement. GameStop, Bitcoin, Tesla -- these names have circulated among my friends' texts and dominated client questions over the past few months. Should they invest in these things?

It's one thing to dabble in such trades for fun with an unexpected Christmas check or even a tax refund. My concern is those inspired to go "all in" picking individuals stocks and speculative investments. Many experts have weighed in on the futility of such trades working consistently, but there are other potential losses to consider called opportunity costs. I argue that we have some very misplaced FOMO, and we have to communicate those costs. Fast.

Let's analyze a scenario of a GameStop trade: Take fictitious Henry, a 30-year-old who perfectly timed GameStop in December. He bought his shares with his own cash, not on margin or using mom and dad's equity in their home.

[Video not showing up above? Click here to watch » https://www.youtube.com/watch?v=pasyXH_JeL8]

Up until three years ago, Henry, making $75,000 per year, was saving 10% into his company retirement plan, or $875 per month which included the company's 4% safe harbor match, and investing in a Vanguard Target Retirement Fund. He then decided he would be better off trading in a brokerage account, like Robinhood. To raise money to do that, he suspended his retirement contributions. He lost his immediate tax deduction on his savings and the 4% match, so the net amount that his paycheck increased was about $500 per month. Each month he deposited that $500 in a low interest savings account.

Then in December 2020 he sees the Reddit WallStreetBets thread on GameStop stock and decides to buy. At this point, he has $18,000 in savings, and decides to jump in when the stock is trading at $150 -- with all his money. He rides the stock all the way to $325 and then decides to sell all his shares now valued at $39,000. In less than a month, he has made an astonishing $21,000. Meanwhile, his retirement account that had started at $30,000 would grow in the background to about $38,000. His financial assets would now total an amazing $77,000.

Well, looks good for the moment. But when he files his tax return in a few months he will find out he has to pay short-term capital gains tax on his GameStop gains, probably around $5,000.

What if he had stayed the course with the Vanguard Target Retirement Fund in his retirement plan? He would end up with a little over $77,000 at the end of 2020, but in a tax protected account, would have no taxes owed until he withdrew a little at a time in retirement. This means Henry would be, in essence, using the government's dollars that he didn't have to pay in taxes to invest and grow and then pay back later, presumably at a lower tax bracket. And for the brokerage account? That is still in cash, earning very little return, waiting on the next investment opportunity.

That GameStop trade looked brilliant when viewed narrowly, but in context even that kind of return does not look quite as smart or glamorous as his retirement plan.

Also, the fictitious GameStop scenario assumes a lot of near-perfect executions: First, the discipline to save $500 per month, which is harder than the automated retirement contribution; not raiding the savings account; avoiding loads of hot stock tips on Reddit or cable news that might underperform or even lose money; the decision to put 100% of his money into GameStop, not just a portion; then knowing exactly when to sell.

Remember, successfully timing the market or any stock in it requires being right twice -- when you get in and when you get out. That's what makes consistently beating the market so elusive, even for seasoned professionals.

The math and logic are not in favor of this form of investing for long-term goals, so I think we can all agree that the way many bought GameStop in December was not investing, but rather speculation. In case you disagree with that judgment, remember that GameStop ideas were generated from a thread called "WallStreetBets." Notice the word "bets," folks.

Henry's Vanguard Target Retirement Fund made up of all index funds returned 27% over three years, but he has barely noticed. What if it were a 50% return? What if it were a 100% return? Would that have made the retirement plan more exciting or attractive than his one GameStop trade? Maybe not.

The problem with owning a stock market index that buys the whole market is that everyone in it performs at average. We might share the sentiment of former football coach, turned Premier League team soccer coach in the show, "Ted Lasso," who must remind himself, "Right, y'all do ties here."

Our brain fires up so much at the concept of winning that we are prepared to lose money for the chance to win. It's a mind bender, but as we see in Henry's scenario, it has to do with opportunity costs.

WIN SOME, LOSE SOME

No doubt our guy Henry won big in an individual trade, but he lost a company match, lost the tax advantage of the retirement account, and lost the automation to perfectly average into the market. Playing the market, even if your money grows, would statistically result with you having less money than you could have had otherwise. The opportunity cost of the retirement plan advantages will be wide ranging. Imagine saying "no, thank you" to the 10% match in the University of Arkansas system.

I think every day about the effort and time invested trying to win a game we don't have to play. In this game of whack-a-mole, people picking individual stocks like GameStop or investments like Bitcoin seem to juice themselves with the one investment that wins and bury the memory of the ten that didn't. And remember, you don't have to lose money on an investment to lose -- you just have to underperform the average investment you could have been in. Alas, it's the winning, dramatic stock trades that make for great cocktail party humble brags.

JL Collins, author of "The Simple Path to Wealth," described those very feelings we assign to such winning in his recent newsletter. "That rising stock is not only making you ever richer. It is, uptick by uptick, confirming what a bright, savvy, insightful, dashing and attractive person you are. A true Master of the Universe who, in the case of GameStop and some recent others, can bring even mighty hedge funds to their knees."

For the record, when the pandemic is over and I go to my next cocktail party and hear the play by play of those who bought GameStop, Apple or Tesla, I will get to point out that I owned them all! Momentarily, my skin will seem to glow a little more, the light will kiss my hair in just the right way, and my clothes will appear more on-trend than normal, until I am forced to admit that I owned them along with all of the other people invested in the Vanguard Total Stock Market Index.

In the meantime, to my FOMO-crazed friends asking whether they ought to buy the next hot investment, I will challenge them to answer the question, "At what cost?"

Sarah Catherine Gutierrez is founder, partner and CEO of Aptus Financial in Little Rock. She is also author of the book "But First, Save 10: The One Simple Money Move That Will Change Your Life," published by Et Alia Press. Contact her at sc@aptusfinancial.com.

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