The results of Stash’s second annual financial literacy survey may serve as a reality check for millions of Americans.*
The online study, conducted in February 2018 by Stash and Survey Monkey, polled 53,000 Stash users and 2,500 members of the general public to gauge their knowledge of common financial terms and concepts.
The survey reveals that a worrisome number of people lack a basic understanding of many of those terms and concepts, though Stash users fared better than members of the general public. Overall, Stash users scored 25% higher overall scores compared to non-Stash users.
No infatuation with inflation
One of the most surprising findings is that 42% of those surveyed don’t understand inflation.
The term, a basic financial concept, refers to the tendency of money to lose value over time due to the rising cost of living. More than four in ten respondents expressed a misconception about what inflation means, and how it works, and how it affects the long-term value of money.
Inflation is, for example, the primary reason your retirement account shouldn’t consist of cash stashed under your mattress.
Compounding is confounding
Compounding, even to those who understand it, can still seem like some sort of magic alchemy that fuels your portfolio’s growth. But 40% of respondents said they didn’t understand how compounding works.
While most people are familiar with the concept of interest, compounding — which, in a nutshell, is interest applied to interest plus the principal of your investment—is what really allows assets to grow in value over time.
The lack of understanding, when it comes to compound interest, could fuel unrealistic expectations about returns, too.
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In what may be the survey’s most important finding, a full third (33%) of respondents believe that the average return on a moderate risk fund would be more than 15% annually.
While a moderate risk investment can show a return of more than 15% during a particularly good year, a bad year can put you in the hole by the same margin. For perspective, the S&P 500 index over the past 30 years has an annualized return of around 8%, without adjusting for inflation.
Further, 46% didn’t understand the concept of diversification, creating a mix of assets that can potentially spread out risk. A moderate risk fund would be comprised of stocks and bonds from many different industries and countries, making it less risky but also subject to lower returns.
The importance of financial literacy
While it’s never been easier for budding investors to get a foothold in the markets thanks to new technology and web platforms, automating your saving and investing isn’t enough to build wealth. Understanding basic financial concepts, like inflation and compounding, is imperative to your long-term financial health.
“One of the most common misconceptions people have is that automation can replace the knowledge needed to succeed, especially in today’s all tech world. The emphasis on education and the financial fundamentals has been forgotten,” Brandon Krieg, CEO and co-founder of Stash says. “Without understanding and taking advantage of benefits like compounding and diversification there is almost no way to make financial progress.”