The most common investing mistakes tend to be self-inflicted. Lack of impulse control allows our hyperactive id to grab the stock-trading joystick. That stock tip finally proves too tempting to resist, as it did for a friend’s mother, and we start gambling with our retirement savings. To add insult to impulsivity, she mistyped the company's ticker symbol and purchased shares of the wrong company.
But while an order-entry mistake is embarrassing, even more damaging to an investor's long-term returns is engaging in any of these self-harming behaviors:
1. Waiting for the perfect moment to begin. Investors who heeded the market doomsday predictions for 2016 and stayed out of—or fled—the market missed out on the S&P 500 index’s 9.5% increase for the year.
Time in the market, not market timing, is an investor's best friend. With a long-term time horizon, you have the ability to ride out the market’s short-term ups and downs. (See No. 4 in this list for tips on how to limit your exposure to short-term volatility right out of the gate.) Similarly, don’t be psyched out of buying stocks because of your brokerage account balance. The same rules apply whether you have $500, $5,000, or $50,000 to invest.
2. Shopping for ticker symbols instead of businesses. It's easy to forget that behind the blinking red and green 3- and 4-letter combinations are actual companies with bosses, balance sheets, break rooms, and business goals. Remember, when you buy shares of a stock, you become a part owner of the enterprise. Approaching stock picking with the mindset of a business buyer helps you focus on the characteristics that make a company worthy of a place in your portfolio.
3. Forgoing a prenup. "What do you hope to get out of this, long-term?" may sound like an online dating question. But carefully crafting an answer may prevent you from making most of the stock trading mistakes on this list.
Grab a pen (or a keyboard) for your self-interview. Write down what you like about a company; what role it plays in your portfolio (e.g., international exposure or small-company technology); the investing thesis (your expectations about the company’s performance) you hope plays out and during what time frame; and finally, a list of reasons that would make you sell shares. Be specific: For example, decide how much of a dip you're willing to endure. Placing a stop-loss order to sell if the stock drops to a certain price will hold you to it and limit downside movement.
Keep this clear-headed prenup in reach for those times when there's a danger of sabotaging your own investment returns.
4. Committing all your cash at once. You may be ready to make a big splash in a stock in a single trade. But the danger of doing a cannonball into the deep end—especially if this is your first time testing the trading waters—is the potential emotional and financial damage if the investment sinks right off the bat. (A bad early investing experience can turn an investor off of stocks forever.)
The better way to invest is to wade in gradually by dollar-cost averaging: buying shares with a set amount of money at regular intervals. In addition to smoothing out an investor's average purchase price, it also removes emotion from the decision of when to buy.
5. Mistaking market noise for actionable news. Being tethered to the news and obsessing over every little blip can cause myopia in the most farsighted buy-and-hold investor. Those daily ups and downs—packaged and played up for breathless market news coverage—are good for ratings but bad for investor returns when they trigger overactive trading. The temptation to make knee-jerk investment decisions is a sign it's time to unplug.
It's better to check up on stocks quarterly, which also happens to be the frequency publicly traded companies report the state of their business to shareholders. In the meantime, if your company shows up in the headlines (say, if a new competitor emerges, there’s a change in management, the sector it's in suffers a setback), calmly assess how (or if) the news challenges your original investment thesis and threatens the business's long-term prospects. Need a refresher? Revisit the investing prenup you created. Then thank yourself for having taken the time to fully research your holdings.
Investing involves risk, including risk of loss.
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