For investors of any level, trying to create wealth by buying stocks, exchange-traded funds (ETFs) or mutual funds is not an easy pursuit.
That’s because we’re using our hard-earned money to try to make it grow. That can lead to poor decision making or letting emotions get in the way of clear judgment.
Given that we’re approaching Allhallows Eve – better known as Halloween – on 31 October, I thought it would be an apt time to explore investing nightmares we should try to avoid.
From “anchoring”, or fixating on a price when we invest, to being overly fearful of losing money when we invest, there are many psychological barriers to overcome.
To ensure, you don’t find yourself in a modern-day rendition of Stephen King’s IT, here are three investing nightmares we should all try to avoid.
1. Averaging down on a loser
One of the worst things we can do as an investor is to throw “good money after bad”. Literally. But that’s exactly what you’d be doing if you continue to buy a company with deteriorating fundamentals.
That’s because those fundamentals matter. If the blip is temporary, then that could be a buying opportunity for long-term investors.
However, if the fall in revenue and profits is a structural issue, then adding money to a sinking hole is a bad idea.
Some great examples of this phenomenon in action have been investors who have continued to add to supposedly “solid” names such as tobacco producer Altria Group (NYSE: MO) or oil giant Exxon Mobil Corporation (NYSE: XOM).
Over the past five years, share prices of both companies are down over 20% while the broader S&P 500 has increased by 115.1%.
Realising if, and why, a business is on the way down is a crucial step towards both growing (and preserving) your wealth.
2. Selling winners too early
Speaking of winners, Tesla Inc (NASDAQ: TSLA) saw its market capitalisation surpass US$1 trillion earlier this week.
As has been pointed out since then, that makes Elon Musk’s stake in Tesla worth more than the whole of Exxon Mobil.
Yet early investors in Tesla, who may have sold out when it was US$50, or even US$100, are probably picturing themselves in an investment version of Wes Craven’s classic horror film Scream.
That’s because that’s exactly what they’d be doing in regret having seen the share price rise to over US$1,000 today.
As is always mentioned when we do invest, buying a stock for the long term means there is no limit to the potential upside to your investment.
That’s because a stock, such as Tesla, can rise 1,000%, 3,000% or even 10,000% or more over time.
On the flip side, the most you can lose when you invest is 100% so your downside is capped. However, how often does an investment go to zero (unless you’re investing in penny stocks)?
So, having the discipline to understand the business, its total addressable market (TAM) and future growth prospects will go some way towards stopping you selling those big winners too early.
3. Listening to “noise”
Finally, what investors want to do to ensure they can grow their wealth long term is to ignore market “noise”.
Much like a “white noise” machine that you might deploy for a sleeping baby, the commentary in markets tends to be the background sort (i.e. what is going to move markets this week or next month).
However, your personal portfolio is focused on the longer term as it’s there to provide you with funds for your future home, retirement and other spending needs.
What sells as “news” tends to be sensationalist so a headline that reads “S&P 500 Climbs 0.7%” is never going to be as sexy as “S&P 500 Plummets 100 Points as Investors Run Scared”.
Understanding that the financial media are there to sell stories, as well as inform short-term traders, will ensure you have the right mindset to grow your portfolio for the long term.
Focus on the long-term trends
If you study the pattern of the stock market over the long term, you’ll realise that the longer you stay invested the better your odds of having more money.
That’s because the stock market is geared to favour long-term investors who are focused on company fundamentals.
So, this Halloween, investors should remember to try their best to avoid the usual nightmares that many of us encounter when we start putting our money to work.
Disclaimer: ProsperUs Head of Content & Investment Lead Tim Phillips doesn’t own shares of any companies mentioned.
