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Aug. 31, 2021, 4:59 a.m. EDT

Retired or near retirement? Learn the difference between a fad and a trend in investing

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Al Emid

This article is reprinted by permission from  .

There’s a growing phenomenon in the stock market — “fad investing” — and it’s something you  don’t  want to do with your money.

Fad investing means buying a stock just because some type of activity is trending, regardless of the prospects of the actual company issuing the stock or any serious underpinnings behind the trend. It can mean making an investment decision without access to the usual fundamentals of a company, such as sales figures.

This type of investing is on the rise for a few reasons: The  stock market  has been on a tear while alternative investments like bonds offer low returns; the increased ease, and often zero cost, of online trading letting people invest without consulting a financial adviser; and the sheer entertainment value, especially during the rough pandemic.  

Add to all that the concept of FOMO — the fear of missing out — which drove much of the frenzied trading in what are known as “meme stocks,” like GameStop , earlier this year.

A meme stock is lightly traded and begins with a low price (typically under $25); then Wall Street hedge funds make bets that the stock will fall precipitously in value while online traders make a form of the opposite bet — that the share price will keep going up. In a June 2021 survey of 1,500 investors, the Betterment Consumer Perspectives Report: How Memestocks Have Affected Investors’ Actions and Emotions, 36% of respondents bought meme stocks during the hyperactive rally in January and February.

Fads vs. trends for investors

But what’s the difference between a fad and a trend?

Investing in electric vehicles, or EVs, is an example of hoping to profit from a certifiable trend, fueled by reactions to climate change and rising gasoline prices. By contrast, cryptocurrencies popping up on a regular basis are more of a fad. Yes, some are likely to eventually become more legitimate, but others will probably disappear.

Here are cautions about three major fads: cryptocurrencies, cannabis stocks and special-purpose acquisition companies or SPACs.

All three call to mind the investment concept of the risk-reward ratio: the higher the potential reward of an investment, the higher the risk that must be taken to achieve it.

A sober appraisal of fads suggests that investing in them is more akin to gambling than portfolio management. Consequently, fads are even less suitable for people who are retired or will be soon.

Three fads to be wary about:

Cryptocurrencies.  These digital currencies are one of the most speculative and volatile investments around. Cryptocurrency prices sometimes rise and fall depending on factors unrelated to their intrinsic value, such as on a tweet by Tesla /zigman2/quotes/203558040/composite TSLA +3.93% CEO Elon Musk.

See: Does bitcoin belong with your 401(k)?

At time of writing, the most popular cryptocurrency — bitcoin — trades for $44,744, down from its high in April of $63,729 but up from a recent price of $33,000.

Investors in cryptocurrencies don’t have the usual stock-market tools such as sales outlooks, revenue projections and management track records to help them make decisions. The value of a crypto coin rests on the premise that other investors will be willing to pay more for it in the future, but hope is not a solid investment criterion.

Cannabis stocks  rank as one of the most confusing fads because of their mixed messages. The fair value of the investment — the stock — becomes mixed with issues such as the propriety of smoking up in public, the illegal pot market and the value of cannabis in medical treatment.

Learn more: Want to invest in U.S. pot stocks? Here’s what you need to know

As an investment, the future of cannabis stocks may not deliver the present promise that’s based, at least in part, on eventual national acceptance, cautions Clark Kendall, president and CEO at Kendall Capital in Rockville, Md.

“Yes, marijuana has been legalized in 18 states, plus the District of Columbia and Guam. But any investor who’s ‘wishing’ federal law would “‘catch up’ with those states is just blowing smoke,” Kendall says. Currently, marijuana is completely legal in some states, legal for medicinal purposes only in some states and illegal in some states.

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