Common Investment Mistakes – And How To Avoid Them
Posted by Richard on October 22, 2013
Investing is too often driven by emotion. Even the most seasoned investors can make bad decisions based on “gut instincts” or something they heard around the water cooler. Here are some of the more common investment mistakes and how you can avoid them.
• Go with the herd. If everyone else is buying it, it must be good, right? Wrong. Investors tend to do what everyone else is doing. Generally speaking, they can be overly optimistic when the market goes up and overly pessimistic when the market goes down. For instance, in 2008, the largest monthly outflow of U.S. domestic equity funds occurred after the market had fallen over 25% from its peak. And in 2011, the only time net inflows were recorded was before the market slid over 10%.1 Don’t do what everyone else is doing. Instead spend more time creating — and sticking to — your investment plan.
• Buy on tips from friends or pundits. Who needs professional advice when your new co-worker can give you some great tips? With all the experts out there crowding the airwaves with their recommendations, why not take their advice? No one has ever been 100% correct about forecasting the market. Do your own research and make decisions based on your own factors, including time horizon and risk tolerance.
• Invest all of your money on one high-flying stock. Sure, if you had invested all your money in Google 10 years ago, you might be a millionaire today. But what if, instead, you poured all of your assets in Enron, Conseco, WorldCom, Washington Mutual, or Lehman Brothers? All were high flyers at one point, yet all have since filed for bankruptcy, making them perfect candidates for the downwardly mobile investor. Diversify your investments.2
• Hold on to your losers. Suppose you bought a stock five years ago, and since then, it has lost 70% of its value. What do you do? Hang on to it hoping that someday it will at least break even? What if it is a dog? Admitting you made a bad decision can be tough to swallow. But if the signs point to your investment being a loser, sell and be done with it.
• Sell when the market is down, and buy when the market is up. The temptation to sell is always highest when the market drops the furthest. And it’s what many inexperienced investors tend to do, locking in losses and precluding future recoveries. The reverse is true when the market rises. Responding to the market’s ups and downs is a surefire way to lock in losses. Stay steady and keep your long-term goals in mind.
• Stay on the sidelines until the markets “calm down.” Since markets almost never calm down, this is the perfect rationale to never get in. In today’s world, that means settling for a miniscule “safe” return that may not even keep pace with inflation. Investing involves risk. Set a course that allows you to potentially grow your assets while assuming a comfortable amount of risk.
• 1Sources: ICI; Standard & Poor’s. The stock market is represented by the S&P 500, an unmanaged index considered representative of large-cap U.S. stocks. These hypothetical examples are for illustrative purposes only and are not intended as investment advice.
• 2Diversification does not ensure a profit or protect against a loss.
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