How To Avoid 5 Common Investing Mistakes
Investing is not a game. The stakes are very real.
If you make a mistake, real money is lost… money that you have worked very hard to attain.
Mess up here and you can foul up your plans for your ‘golden years’ Or perhaps helping your children with skyrocketing college costs. Or whatever you’re planning to put your investing gains toward.
I know. I saw it firsthand during my 17 years working at Charles Schwab in both the front lines as a broker and as a supervisor.
I’ve been in the investment business since the 1980s and observed a number of mistakes that sank investors’ fortunes over the years.
I’ve put together a list of some of the most common mistakes I saw the typical retail investor make.
Please keep in mind that this list is just an amalgamation of my personal thoughts and that I am no longer licensed to be a broker or advisor so please don’t take this as personal investing advice.
Mistake #1: Having No Plan or a Poor Plan
Having no plan is simply foolish. But having a poor plan may be even worse: “I’ll just buy XYZ stock. It’s been red-hot. That will fund my retirement.”
Investors, with or without an advisor, should have a written plan that lays out their specific objectives. Considerations that should be included in every plan are your goals, the time frame involved, and your individual risk tolerance.
Also, as your financial situation changes, the plan needs to grow and evolve with you. Keep in mind also that life expectancy continues to rise. So your portfolio likely will need to last a lot longer than you may think.
Here is just one tidbit to ponder about your future retirement:
If you want to live the lifestyle that you’ve become accustomed to, you will need to replace 75%-85% of your pre-retirement income with retirement income, including Social Security. In real terms, that means you will need to have saved, at a minimum, eight times your ending salary before retiring.
I will delve more into how to invest for retirement in future education articles.
Remember too that you and every other person are unique – your circumstances are different.
That’s why I believe that a cookie cutter approach – just plugging some data into an algorithm – will not work over the long-term. Thus, I’m not a huge fan of robo-advisors.
Mistake #2: Not Remembering to ‘Trust, But Verify’
If you don’t have an account at some robo-advisor, you may have some sort of professional advisor.
Great.
But remember the words of former President Ronald Reagan, “Trust, but verify.”
Most advisors are darn good at their job. But stay engaged. Do not just leave everything in the hands of your advisor. Follow the markets and see if what your advisor is doing is right in your opinion. Get a second opinion if you have any doubts.
I recall the financial crisis of 2008 when many portfolios took major hits. I was absolutely embarrassed for my former profession.
Some advisors resorted to what I call “the Three Stooges defense”. That’s where Curly says, “I’m a victim of circumstances.”
In other words, some advisors were saying no one could have foreseen the financial crisis. Nonsense. The warning signs were all there for someone with market experience to see. And that experience is supposed to be what you’re paying an advisor for in the first place.
Ask your advisor if he or she has been through a bear market.
Or if not, see if they even can explain to you what a bear market can do to stocks. Ask them to explain to you the devastating effects of drawdown on a portfolio.
In very simple terms, a 50% drawdown means you need to make 100% on your remaining money just to get back to even.
Even a smaller drawdown – like the 20%-30% that people incurred during the 2008-09 financial crisis – could take many years to recover from. That may force you to work for more years than you originally intended.
Mistake #3: Thinking You’re Diversified, But Are Not
Another common problem I found was investors not really understanding what they were invested into.
There were innumerable times I sat down with a client who proudly showed me their supposedly ‘well-diversified’ portfolio.
Here is an oversimplified example: a portfolio with seven different mutual funds or ETFs.
Looks good on the surface. But then when I dug a little deeper, I had to tell the client “You’re not diversified at all. These funds are all heavily invested in U.S. technology stocks, You have nearly half your portfolio in one industry in one country. That is not diversified.”
Needless to say, a reshuffling of the portfolio was often required.
I’m sure this still applies in many cases today. If you own a S&P 500 index fund, you have a more than 20% concentration in technology stocks. And about 7.5% is in the FANG stocks alone.
In my opinion, only the most sophisticated of investors should have a concentrated portfolio (only a dozen or so stocks).
Mistake #4: Ignoring the Rest of the World
A related problem was the absolute lack of exposure to the rest of the globe. Many clients had little exposure to foreign markets.
This is common among U.S. investors. A study done by robo-advisor SigFig in 2015 found the median individual investor had a mere 6.6% in foreign stocks.
In other words, U.S. investors still invest as if it was 1950, when the United States was the dominant economic superpower.
Because it no longer is. Consider this:
International Monetary Fund (IMF) data, as of the end of 2015, shows that the United States accounted for just 24.7% (1st) of nominal global GDP and an ever lower percentage – 15.6% (2nd) – when the figures are calculated on a purchasing power parity (PPP) basis.
In the investment industry, the term given to this type of behavior is “home bias”.
The world may have changed, but investors’ way of investing has not. They seem to be confusing familiarity with making money, forfeiting possible large gains to be made elsewhere in the world.
No denying that the U.S. market has outperformed its overseas counterparts in recent years. But consider these market facts:
- U.S. stocks now account for only about 50% of global stock market capitalization. Nearly 80% of all publicly traded companies in the world are now headquartered outside the U.S.
- The total value of the world’s stock markets has risen 133% since 2003. During the same time period, the U.S. stock market climbed by 87%. In other words, it has been a relative laggard.
- Big gains have been seen in places like China and India, where market capitalizations have soared by 1,480% and 639% respectively, in the same time frame.
I put it to clients this way – Would you do your grocery shopping in just one aisle of the store? Even if was the biggest and best aisle?
I leave that to you to decide.
Mistake #5: Short-Term Trading With Your Long-Term Money
This next point should be common sense: Don’t day trade with your long-term money by trying to time the market.
But you would be shocked at how some people tried to play catch-up in their retirement account by day-trading. Warning: I have yet to meet a day-trader that has been successful over the very long-term. I’m talking decades here too.
Final Thoughts
Investing is not an easy ‘game’ to master.
I’ve seen so many investors lose their patience and not stick to their financial plan.
I cannot emphasize enough that the goal of investing is to be a winner in the long-term. You don’t have to “win” in the stock market every day.
That is a philosophy espoused by perhaps the greatest long-term investor ever, Warren Buffett.
This, by far, is my favorite Buffett quote: “Someone’s sitting in the shade today because someone planted a tree a long time ago.”
So if you’re smart, plant your tree today. Then you can be sitting in the shade, enjoying life, at some point, and enjoying a comfortable retirement.
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