Guess how many Americans correctly answered this basic financial question: Is the stock of a single company usually safer than a mutual fund?
A) 100% B) 80% C) 60% D) None of the above.
The right answer is D. Barely 1 in 2 people knew that a single stock is not safer than a mutual fund, which holds many stocks.
The question, included in a survey by a pair of college professors, underscores a fundamental problem facing millions of Americans. At a time when the world of personal finance is increasingly complex — and when people are more responsible than ever for their own financial future — Americans’ understanding of basic concepts is sorely lacking.
Despite many efforts to boost knowledge, studies show that most people don’t understand rudimentary principles of finance and investing. Even well-educated and upper-income Americans often have poor financial literacy, experts say.
“By and large, people are pretty clueless,” said Olivia Mitchell, executive director of the Pension Research Council at the University of Pennsylvania and coauthor of the study.
A 182-page analysis by the Securities and Exchange Commission last year found that “investors have a weak grasp of elementary financial concepts and lack critical knowledge of ways to avoid investment fraud.”
The result, experts say, is young people who are mired in student debt and older Americans who face bleak retirement prospects. People who don’t understand basic concepts are ill-equipped for more complex tasks, such as ferreting out hidden fees or conflicts of interest that are embedded in many financial products.
The collective ignorance has played a role in recent financial crises, according to some experts. The subprime mortgage meltdown would have been less severe, they say, if people understood the pitfalls of the loans they were taking out.