Know the key factors to be considered while making investment decisions

factors that affect investment decisions

Diversification, all the costs of buying and selling, and how much unnecessary worrying you will do are just some of the factors to be considered while making investment decisions

To succeed as an investor, you need to consistently follow investment practices that have paid off for large numbers of investors over long periods. If you take big risks—bet on long shots—you are likely to lose.

To make money in the market, you must understand the factors to be considered while making investment decisions. For instance, you should only invest in stocks when you can afford to and intend to hang on to them for a lengthy period, perhaps two to five years. Your plans may change due to circumstances you can’t control, of course. But if you go into the market without committing to a lengthy stay, you are at risk of selling impulsively during the next short-term market downturn. Do that and you are likely to lose money.

Don’t ignore costs—an important factor to be considered while making investment decisions

You face three costs every time you buy and sell:

  • Losses to the bid/ask spread: If you want to carry out a transaction right away, you have to accept the highest available “bid,” or pay the lowest “offer.” You can enter your own bid or offer. But this means you have to wait for another investor who is willing to do business at your price. Meanwhile, prices could move against you.
  • Taxes: If you sell at a profit in your taxable account (outside your RRSP or tax-free savings account), you usually have to pay capital gains taxes.
  • Brokerage commissions: Every transaction you make in your portfolio involves brokerage commissions or similar costs, even if these costs are hidden or built into the price you pay or receive. (Note, though, that falling commissions for online trades is helping to reduce costs here.)

Diversifying your portfolio is one of the factors to be considered while making investment decisions

Your portfolio strategy should begin with a fundamental piece of advice that we underline frequently: Spread your money out across most if not all of the five main economic sectors (Finance, Utilities, Manufacturing, Resources, and the Consumer sector). The proportions should depend on your objectives and the risk you can accept. The Canadian Finance and Utilities sectors generally involve below-average risk. Manufacturing and Resources tend to be riskier, and the Consumer sector is in the middle.

One of the factors to be considered while making investment decisions is around diversification between aggressive and conservative stocks. Balance aggressive and conservative investments in your portfolio in line with your investment objectives and the market outlook. Above all, avoid the urge to become more aggressive as prices rise and more conservative as prices fall.

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Use a break even analysis as one of factors to be considered while making investment decisions

A break-even analysis is basic arithmetic, but has significant value in analyzing potential gains—and losses—on stocks. For example, if you lose X% in the stock market, you’ll need X% to recover, or break even. An understanding of this relationship can help you stay out of poor-quality stocks where the risk of a big decline is high. For example,

  • If you lose 10%, you need an 11% gain to break even.
  • If you lose 20%, you need to make 25% to break even.
  • If you lose 40%, you need to make 66.6% to take you back to where you started.
  • If you lose 50%, you need a 100% gain to break even.

An 11% gain is relatively common; in fact, the market has gained nearly that much annually, on average, over the past 75 years or so. A 25% gain is a little harder to achieve. You need an above-average year to make that kind of return. Gains of 66.6% to 100% or more can take years. Even if you make enough money to regain your losses, however, that only brings you back to where you started.

The time you spend worrying about investments is another one of the factors to be considered while making investment decisions

Of course, investors worry, especially about the kind of economic upheaval caused by COVID-19; it’s not in human nature to avoid worrying altogether. As humans, we are bred to overreact, to dwell on or even brood over any hint of risk.

There are always investment-related worries to occupy our minds. Sometimes for investors, this means worrying about high-risk investments that they’ve made.

You get a much better return on time spent if you devote less of it to worrying about (and in fact avoiding) high-risk investments, and more of it on developing a sound investment strategy. Create a strategy that is built upon analyzing the quality and diversification of your investments (and cutting risk), and the structure and balance of your portfolio.

Use our three-part Successful Investor approach to build a better portfolio

  1. Hold mostly high-quality, dividend-paying stocks.
  2. Spread your money out across most if not all of the five main economic sectors: Manufacturing & Industry, Resources & Commodities, Consumer, Finance and Utilities.
  3. Downplay or stay out of stocks in the broker/media limelight.

Some investors prefer stocks that have garnered a lot of attention from the media while others do not. Do you invest in stocks in the media limelight, or are those the types of stocks you avoid?

What factors do you consider when you make investment decisions?


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