Written By Travis Hornsby, CFA®, CFP®
2020 was a strange and unprecedented year for the entire world. But especially for the United States, it seemed like everything that could go wrong went wrong in 2020.
In that one year, the president was impeached, a black man was murdered on live television, which sparked the largest protests for racial justice in America, and we were hit with the worst pandemic since 1918 – taking the lives of over 350,000 Americans.
And that was just the tip of the iceberg.
Given all of the uncertainties in 2020, I’m going to talk about how you can come out ahead financially in 2021.
How to invest wisely in 2021
Last year, we saw the economy almost ground to a halt due to lockdowns. Entire businesses were wiped out and we had the highest unemployment rates since the Great Depression.
We also experienced the most intense and divisive election period, culminating in blatant attempts by President Trump to undermine democracy by trying to overturn the results of a free and fair election.
Well, thankfully, the year is over and we are safely in 2021. And though we have been thoroughly tested, we remain hopeful for a better future. So how can we invest wisely and create wealth despite the commotion in the world around us?
The unpredictable stock market
Let’s pretend that it's December 31, 2019. What if in the midst of all the cheerful and carefree celebrations of the year, someone came to you and told you that all those weird things would happen in 2020? What would you have done?
Would you have guessed what was going to happen to the stock market prices? Or thought about the performance of the Dow Jones by the end of 2020? What investment decision would you have made if you had that information in December 2019?
Naturally, most people would have predicted a fall in the stock market prices. You probably would have sold all your investments anticipating that drop in value.
Surprisingly, the Dow Jones ended at about 30,000 in 2020. Despite everything that happened, the return for the stock market was around 21%. Sounds crazy.
This goes to show just how unpredictable the stock market is. In fact, the random walk theory suggests that you don’t know the next direction of the stock market. Though you can speculate that somethings are likely to happen, you cannot predict with any degree of certainty what will happen in the market in the future.
Even successful stock traders and investors often get things wrong, too. So, you have to be very cautious about such predictions when choosing your investments.
Momentum investing and risk management
Momentum investing is a strategy that capitalizes on an existing market trend. It involves buying stocks or futures showing upward-trending prices and vice versa.
Momentum is where investors will pile into something with the expectation of trade being one-directional with nothing but buy, buy, buy.
The best example of that over the past year has been Tesla. Not many people will get in front of a freight train stock market increase like Tesla. Like John Maynard Keynes, the famous economist, once said, “Markets can stay irrational a lot longer than you can stay solvent.”
People will still take the other side of that trade, but many have lost significant sums of money and gotten obliterated for making these trades.
Now, many inexperienced traders that don't understand investing see Tesla at over $800 a share, and they think it must be going to $1,000 a share. They underestimate risk and they overestimate the potential for return.
Sometimes people look back at past performances and they use that as the predictor of future results. But that’s not how it works.
A company that's grown to hundreds of billions of dollars has a lot less room to grow than a company that is a billion dollars. So, you don’t buy stocks at yesterday's prices with the hope that the trend will keep going.
Some investors get over-enthusiastic about the future of such companies. But we don't know what the future holds, and some of these big companies could be in a bubble that might burst at any moment.
2021 trend of investing in undervalued stocks
One big trend that I'm seeing in 2021 is the cyclical trade out of growth in undervalued stocks. By definition, growth stocks are companies that are expected to have their best days way into the future, instead of now. A good example is Netflix or Peloton.
But you also have to consider the FOMO investing environment or the “fear of missing out.” People are upset with themselves for not buying Bitcoin when it was at $4,000 earlier this year.
In hindsight, you could have made a 400% return on your money with Bitcoin. But what about the risk? What is the variance of your investment return?
If something can go up 400% in two months, there’s a really good chance the thing you’re buying is a speculative bubble because it could fall 98% over the same period.
That’s not investing – it’s more like flipping a coin and hoping it works out.
How to win at investing in 2021
The market manifests two emotions: greed and fear. In March 2020, the primary emotion we battled was fear.
Now, the market is battling greed.
To win at investing, you must master both emotions by having an automated, regular investing plan that doesn’t depend on or react to greed or fear.
Many people are still fearful, but they’re afraid of the value of a dollar or inflation because of the many massive stimulus bills. Those investing in cryptocurrency see it as the solution because it’s decentralized and not subject to central banks.
But it’s a gamble. Remember: If something can soar so much so fast, by definition, that means it could fall that fast, too.
Take a moment to think about what that means for your portfolio. Do you want to take a gamble on your financial future? Or do you want to take steps to ensure that you’re going to be wealthy and ensure that you’ll have financial security one day?
How to get rich when you can’t predict 2021
Investing can be very complicated for anyone who has no experience or knowledge of how the markets work. It really is about controlling your emotions when you’re investing and having a specific strategy in place.
Many people that make a lot of money trading can’t clearly explain their strategy or reasoning. So for most of them, it’s a matter of luck, not skill.
But you have an opportunity to gain knowledge and understanding of the market. Every six months, we completely overhaul and update our flagship investing course, Six-Figure Debt to Six-Figure Net Worth. It’s completely updated for 2021 – including a brand-new section of 529 plans and UTMA accounts for kids – and we’re offering a $100 discount if you purchase in the next two days.
Learn what mutual funds to use, how and where to set up accounts, what diversification we suggest and smart tax strategies to save money whether stocks go up or down in 2021.
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