Here are 4 classic errors in stock market strategy that can seriously hinder your returns. All investors make them from time to time.
1. “Averaging down” without reconsidering whether you should have bought in the first place: Many investors have made lots of money by following the stock market strategy of “averaging in” to the stock of a well-established, well-managed company — that is, buying more as funds became available over a period of years.
“Averaging down” is different. When you systematically average down (that is, you buy more of a stock you own that has gone down in order to lower your average cost per share), you are zeroing in on your losers.
Mind you, good stocks can drop and stay down for lengthy periods, just like bad ones. But the bad stocks are more likely to go down and stay down. If you routinely buy more of any stock you own that goes down, you increase the risk of loading up on your worst picks. That stock market strategy costs you money, because it keeps you from buying good stocks, since your funds will be tied up in bad ones.
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2. Taking on heavy risk: Many investors do this in hopes of quickly reversing the losses they experienced during the recent market turbulence. It’s a tempting stock market strategy in a situation like today’s.
Lately, you may have noticed a lot of ads for courses in online, short-term stock trading or foreign-exchange trading. The promoters are aiming their pitch at inexperienced investors who have suffered heavy losses. These investors may be inclined to follow the example of desperate gamblers who bet their last few dollars on a handful of lottery tickets, or a long shot at the track or the casino.
That’s a particularly wasteful example to follow right now, when so many well-established stocks trade at low multiples of earnings and offer high dividend yields.
3. Buying low-risk, low-return, high-fee structured investments: Financial institutions create these often-complicated investments because they think they’ll be easy to sell to investors.
Structured investments often focus on reducing risk. That’s a huge selling point. But it costs money, which comes out of investors’ pockets. Structured investments can spend so much money cutting risk that they produce scant returns or even losses after five or even 10 years.
Recent examples of structured investments include the asset-backed commercial paper market (which collapsed in 2007), and index-linked GICs (which routinely produce meagre returns, if any).
4. Jumping to conclusions: Stock price movements reflect a wide variety of economic, political and other influences, some obvious and others hidden. That’s why we think it’s a poor strategy to zero in on one or a handful of indicators as a guide to what you should do with your portfolio. Just remember that if you look out a window onto a field, you can see why people used to think the earth was flat.
Pat; your four classic errors are so true. I am guilty of three of the four, but since I subscribed to your newsletters it has helped me gain some patience. Though I must admit , it is still a “work in progress”.
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Pat; your four classic errors are so true. I am guilty of three of the four, but since I subscribed to your newsletters it has helped me gain some patience. Though I must admit , it is still a “work in progress”.