For many first-time investors, it is common to make at least one investment mistake before they become experienced enough to know how to identify and avoid these mistakes. The most obvious clue that an investor missed something or made an investment mistake is when they start losing money. A loss of more than 10% often signals you have a problem in your portfolio and a loss of about 30% indicates you have a serious problem and should start evaluating everything immediately. In this article, we are going to look at seven of the most common investment mistakes so you can avoid them whether you are a beginner or an experienced investor.
Failing to Sell Losers
Nobody wants to hear that an investment option they included in their portfolio is a loser. The reality is that unless you are highly experienced, you will pick a loser from time to time. The need to not feel like a loser often leads to people holding on to a losing stock for much longer than they should. It is understandable to see a blip in your portfolio from time to time but, when you start taking on more than 10% in losses, it is time to find out what is underperforming or making a loss and get rid of it.
Because the decision to sell or hold on to investment is often psychological, emotional or both, you need to have a strategy in place and plan to sell under certain conditions. As mentioned earlier, setting a certain percentage of losses, usually 10%, is a great place to start.
Many investment platforms allow you to place what is known as a stop-loss order, which is an order to sell once you hit a certain percentage loss. Even in cases where the company or sector you have invested in looks strong, consider using this rule. Remember that you can always get back to investing without incurring huge losses and it will only cost you some time and a few dollars in commissions or broker fees.
Failing to Diversify
It is quite common for professional and experienced investors to keep making money in a few concentrated positions. However, this is not a realistic strategy for new investors and you are likely to lose your money doing it this way unless you have the backing of an investment professional. Diversification is the obvious solution here.
Diversification means investing in a wide range of options. In many cases, investment professionals will advise you to invest across industries (think technology, retail, healthcare, etc.) as well as in various commodities (gold, silver, etc.) because these categories are inversely related. This means when the price of stocks goes down, commodities usually hold their price or go up. Also, commodities usually keep up with inflation whereas other investments might not.
A general rule is that no stock or investment option should take up more than 10% of your whole investment portfolio. By doing so, you give yourself a lot more exposure and protection from price dips on any part of your investment portfolio.
For beginners who would like to know how to invest in stocks the right way so that they have an even, balanced portfolio, WealthSimple has an in-depth guide that goes through everything you need to know. Their guide on how to invest in stocks also goes into more detail on some of the diversification options and strategies you can use to ensure a good return on your investment. When you decide to invest through their WealthSimple Invest tool, you also get a free stock to get started. Alternatively, you can choose their WealthSimple Trade tool that allows for commission-free stock trading, which is a great option for new investors who want to refine their investment strategies or try a few stocks before investing fully.
Allowing Winners to Turn to Losers
As with when a losing investment becomes a loser, there are instances where an investor’s actions can turn a winner into a loser. Some investors sell a stock or investment option on the rise, only to realise they would have made more money by holding on to it for longer. The next time they invest, they might hold on too long and then see the investment fall in value faster than they can sell it. When this happens, some investors turn to hoping the investment can rebound.
If you have a winning investment, it is advisable to think of selling or offloading it depending on the profit it makes. For example, if you have a holding that makes 40% profit in a year, it would be a good idea to sell 40% of it. By doing this, you not only secure your profits, but you also ensure your portfolio does not become imbalanced due to being overweight from this one investment and the underweight of other investments compared to this high-performing one.
Getting Too Emotional
Many of the mistakes investors make are due to being unable to control their emotions. A key indicator that you are going in the wrong direction is being too emotional or making emotional decisions regarding your investments.
The two main problematic emotions are overconfidence and impatience. Although self-confidence is important when investing, investors need to taper their egos because egos get in the way of making rational decisions. Instead of relying on emotions, the best investors rely on research data and advice from other investors. They do not rely on greed, confidence or fear to make these decisions.
The best long-term investors often have a slow and steady approach to their investing. Allowing impatience to get in the way so that an investment does not produce the desired results is a recipe for disaster. Being patient means you need to be realistic about your expectations. This might seem counterintuitive considering that you should not hold on to losers for too long. The point is that you need to know your expectations as well as how to read the market to know if a loss you are seeing is a blip or not and when to get out if what you are seeing does not match what you expect.
Not Understanding the Investment
Another common mistake investors make is investing in stocks, companies or other investments without fully understanding them. This can lead to investing in the wrong companies and making a loss down the road. Some of the best investors in the world say they do not invest in industries, companies or sectors they do not understand. When they have to do it, they often do a lot of research so they know exactly what they are investing in.
One of the best ways to avoid falling into this trap is to invest in mutual funds or exchange-traded funds(ETFs). Both of these allow you to invest in a diversified selection of stocks and other investment options so that, even when you do not understand a few companies in your portfolio, you are still protected.
Falling In Love with a Company
When you buy company stocks, you have to remember you are an investor. It is easy to fall in love with a company because you love their products and services or because the company pays a good dividend. This is the wrong approach as it often leads to people holding on to the stock for far longer. After all, they do not want to let go of their beloved company.
You need to keep in mind that the reason why you are involved with the company in the first place is to make money. If something about the company, its fundamentals or your investment changes, it is perfectly okay to sell your stock and consider investing in other companies that are more in line with what you want to invest in.
High Investment Turnover
New investors will often switch from one stock to another to test their strategies and to see which of the available investments would be a great fit for them. What a lot of people do not know is that their investments are eroded a little when they make switches like this. This often happens in the form of commission fees that need to be paid every time you switch to a different stock or investment option.
Unless you are an institutional investor who either has a lot of money or a low-commission trading account, it would be best to avoid high investment turnover. The strategies you have put in place should always guide you on what investments to buy and sell and when to do so. Additionally, if you do not know where to start, do thorough research and talk to investment experts so they can advise you on the best stock or investment options to get into.
Investing can become tricky very fast, especially if you do not know how to avoid any of the mistakes that investors make. Luckily, there are so many examples to learn from and the availability of information that can help investors avoid these pitfalls. The tips discussed above should also come in handy for investors who do not know about these mistakes and how to avoid them.