Eight Investor Mistakes You Don’t Want to Make
25 Apr 2018 | Back to Blog
Recognizing common, potential mistakes and how to avoid these missteps is often the most important part of creating a successful investment programme. Falling into these common traps is often the reason some retail investors don’t reach their potential returns and fall short of expectations. Investment mistakes, traps, pitfalls, missteps tend to fall within the following categories:
HAVING NO STRATEGY
Having no strategy can lead to an investment portfolio that’s all over the place. It can leave you open to emotional buying and selling. Your strategy is what will ultimately help you achieve your goals/objectives. With no strategy, there’s no guarantee you’re heading in the right direction. You need to determine your goals/objectives at the outset and then devise your strategy for achieving them. A well-planned strategy takes into account your objectives, risk tolerance and a host of other things. As an investor you should also have an exit strategy, so you don’t end up holding on too long, especially if you’re in a loss position. Do your due diligence and get advice from a trusted expert.
BUYING HIGH AND SELLING LOW
Most investors tend to buy when news is good and when everyone is buying into that investment and then sell when news is bad and everyone else is selling. The problem with this is that the act of the crowd buying into an investment tends to send the price up, sometimes to a higher level than is warranted. So you end up buying at the high. On the flip side, when an investment’s price is low, investors tend to get scared and sell the investment. We call this ‘performance chasing.’ This brings us back to our previous mistake of not having a strategy. This is one of the reasons having a strategy is so important. The classic buy-high-sell-low investor doesn’t have the tenacity to stick with their strategy and are too easily influenced by market blips.
Sometimes too, investors end up selling low when they wait too long to offload an investment that was obviously a mistake, in the hopes that they can recoup their investment. So it’s important to regularly review your portfolio and your investments to see where your previous decisions have gone right or where they’ve gone wrong, so you can take corrective action before a situation exacerbates.
A good rule of thumb, is to buy at wholesale prices and sell at retail prices. But also, monitor your portfolio regularly.
USING THE MEDIA AS YOUR FINANCIAL ADVISOR
The media should never take the place of your financial advisor or your own in-depth analysis of the fundamentals of your investment.
Acting on media tips and sound bites, paying too much attention to financial media, and trading the news, are all strategies without a sound basis. Furthermore, once you’ve heard a ‘hot’ tip, it’s already cold.
While what is reported in the media is useful knowledge, it isn’t usually actionable news. But once it has hit the air waves, sad to say, it’s already stale.
TRADING TOO FREQUENTLY
Investors often attempt to trade on hot news thinking only about realizing fast short-term gains, and forgetting that each trade attracts fees/commission, which cut into their net returns. When calculating your returns you need to adjust for those fees.
You also need to remember your time horizon. If you’re investing for retirement in say 20 or 30 years, then what the market does this year, this month or even today shouldn’t be a big concern. The amount of trading you do should correspond to your investment time horizon, your goals and objectives and your overall strategy.
NOT TRADING FREQUENTLY ENOUGH
People stay out of the market for various reasons. They may have been discouraged by prior losses, they may get too busy with other parts of their life, they might be scared because they don’t know or think they don’t know enough about investing or they might simply just not be that interested. In the latter 2 cases, an investment advisor can help. It’s their job to be looking at the market and at your portfolio and to advise you on strategic moves to make.
However, in many cases, people stay out of the market because they’re discouraged by prior losses. One thing to note though is that investors should continue investing in every market, through different investment vehicles, and establish a mechanism to make regular contributions to their portfolios. Some investors tend to get skittish in bear markets. But that inherent fear in the market in such times can create opportunities for investors as prices of some investments may decline well below their fair value, based on the true earning potential of the business.
Portfolios should also be reviewed regularly and rebalanced in keeping with the overall strategy.
It’s important to maintain a broad view of investing and not allow your judgement to be clouded by external factors.
Recent wins can make an investor overconfident, causing them to take on too much risk. Remember this risk/reward trade-off. With higher returns comes higher risk, which means that the more risk you take on, the higher the potential gain, but there’s also an increased potential for loss. So sometimes, you will win, but there may be times when your investment falls at the other end of the spectrum. So investors need to ensure the risk they take on can be accommodated by their circumstances. While we all enjoy high returns, we need to do the assessment to see whether we can accommodate – financially and emotionally – the potential loss associated with a certain level of risk. Even if we have enough funds to absorb a particular loss, the emotional scarring that loss can leave could make us resistant to participating in the investment markets in the future. But then we’d miss out on potentially good returns.
PUTTING ALL YOUR EGGS IN ONE BASKET
Diversity is key. Individual stock investing, for instance, increases your risk as opposed to investing in an already-diversified fund. Failing to diversify leaves individuals vulnerable to fluctuations in a particular security or sector.
It’s also important to note that fund diversification doesn’t necessarily mean portfolio diversification. Investors may own multiple funds invested in similar industries and the same individual securities.
True diversification involves holding securities which have differing driving factors for their returns.
FAILURE TO SEEK PROFESSIONAL ADVICE
In other areas of life, like matters of health, legal, car maintenance, architecture, etc., persons freely accept the need for professional expertise. Expertise, when investing, is no less important.
Investors need to formulate a strategy for getting the best returns that are compatible with their risk appetite. The best way to this is through a detailed discussion with a Financial Advisor — like our team at VM Wealth — around long-term goals, objectives, requirements, life-stage considerations, and risk capacity.
What typically happens sometimes is that investors become overconfident in their own abilities to make investment decisions with incomplete information or knowledge. Coupled with an incomplete strategy, this can lead to underperformance.
Investors sometimes also overestimate their capacity to take on risk in pursuit of investment returns. There is no such thing as risk-free investing. Determining risk appetite involves measuring the potential impact of a loss on both the portfolio and the investor’s psyche.
The first step in effective financial planning must be a holistic conversation with a qualified financial advisor to ensure that objectives are clearly set, risks are well-understood and the outcome, although uncertain, will be aligned with the objectives and constraints.