I wanted to dispel a handful of common investment myths.  Many times, in the market, it’s all about what you don’t do, rather than what you do.  So I write this hoping it will help you avoid some of what doesn’t work in the stock market–and thus improve your own returns! Check back tomorrow for more and send us any questions, comments or suggestions you have or comment here and we’ll be glad to help you out.

1.  Insider selling isn’t a major factor in a stock’s future performance.

While most investors believe insiders are these all-knowing beings that will never sell their stock if something good was going to happen, history shows that’s just not the case.  Almost all of the biggest stock market winners experienced plenty of insider selling on the way up.  Why?  Usually it’s because these winners were entrepreneurial companies, and the top brass was paid in stock (ownership), not cash.  So, naturally, they cash in somewhat on the way up.

Insider buying might be slightly more meaningful (you only buy for one reason, but there are many reasons you might sell), but even then, insiders can buy well ahead of any rally in the stock.  What really matters is the perception of institutional investors-hedge funds, mutual funds, pension funds and the like-that control trillions of dollars.  If a few insiders want to sell $10 million of stock, but if Fidelity Contrafund (not to mention a dozen other mega-sized funds) wants to buy $50 million, those insider sales won’t mean a thing.

2. P/E ratios (for growth stocks) are a result of performance, not a cause of it.

Nearly everyone is raised in life to get a bargain, whether it’s for a suit, a car or even for groceries.  (I would’ve said for a wedding, too, but I don’t want to start making this a piece of fiction.)  So when the average Joe sees a stock trading at 100 times earnings, he avoids it like the plague.  But in reality, P/E ratios don’t have a convincing correlation to growth-stock performance; sometimes a big winner will start off with a low P/E, sometimes it starts off with an average P/E, and sometimes it’s high.

What really counts isn’t the P/E, but the firm’s sales and earnings growth, its margins, its industry trends and its stock’s performance, which tells you what institutional investors perceive.  Those factors have a much higher correlation to future performance than P/E’s do.

3. You CAN go broke taking a profit.

I recognize that there is no one best system for investing in stocks.  Here at Cabot, we have editors that are heavy on fundamentals (Cabot Small-Cap Confidential), value-based (Cabot Benjamin Graham Value Letter), momentum-based (Cabot Top Ten Report) and so on.  In the world of growth stocks, which I focus on, the key is to cut losses short while giving your successful stocks a chance to become big winners.

Sure, I’m all for lightening up on your winners from time to time, ringing the cash register and putting some money in your pocket.  If nothing else, selling small amounts on the way up puts you in a positive state of mind, which is crucial for successful investing.  But for most of your shares, you should be holding on and giving your top performers a chance to become big winners.

Most investors regularly book three- or four-point profits, not realizing that they’re also going to suffer many three- or four-point losses along the way (assuming they’re smart enough to cut losses short).  The result is so-so performance.  And if they hit a losing streak, or let one bad stock get away from them, look out below.