2008 was difficult year for most investors, the stock market lost all its gains from the pas 10 years and we saw the biggest “correction” since the great depression. Blue chip companies, strong and stable companies, cut dividends and had massive layoffs some even begged the fed to bail them out. Then there were the stories of Bernard Madoff and Ed Earl Jones costing investors their lifetime of savings. More and more investors have decided to become “Do it Yourself” (DIY) investors and often rightly so, but what is the secret to becoming a good DIY investor? There really is no magic to investing; anyone can do it as long as you follow a few simple rules. Previously we published 10 investing tips to become a successful investor to help DIY investors. Although there is no magic to investing if you are a new DIY investor you can easily fall into the common investing traps and ruin your portfolio – detailed below.
1. Buy, Sell, Buy, Sell…
Short term trading, quick buying and selling is one of the best ways to destroy your investment portfolio. Online discount brokers make it is very simple to just buy and sell securities with the click of a mouse, sit in front of your monitor and constantly watch your stock price. Of course when you see your stock take a little hit just click sell and it’s sold. Thank god you acted fast and took a 2% loss; you do that a few times a month and got yourself a 10% loss. Add the trading fees on top of that and your losses increase. Statistics show that short term trading fails over the long term in overwhelmingly majority of cases. Very few people can be profitable day traders. So if you want to destroy your investment portfolio, start with short term trading.
2. HOT Stock Tip – Get Rich Quick
A few weeks ago a friend of mine called and said a co-worker had given him a good tip on a stock and he should buy some, he was considering a $10,000 purchase. So I asked him some basic questions: “What does the company do”, “What do analysts say”, “What’s the management’s history?”… He did not know the answer to any of these, and decided to ask the person who tipped him…he had no clue either but was sure it’s a good investment his brother-in-law’s friend had said so. I advised him against the purchase and his colleague is now down 35% in 2 weeks …OUCH! There is almost no better way to demolish your portfolio than to follow the “hot” stock tips or the get rich quick stocks. Purchasing strong, stable companies is boring!
3. Find the Exotic
The investment industry loves creating new investment products, every few months some new exotic investment is brought to the market. Investors jump at these investment vehicles without understanding the risks associated with them. A great way to destroy your investment portfolio: put a large chunk of your retirement fund into these exotic investments and watch them disappear.
4. Asset Allocation is Not For You
One of the first things any investor should do before investing is have an asset allocation and stick to it, well that is for anyone who wants to see their investment portfolio grow. Asset allocation ensures you are diversified among all asset classes (stocks, bonds, cash etc). Studies show that over 90% of your portfolios variability is due to your asset allocation – not sticking to your asset allocation is crucial to the destruction of your investment portfolio.
5. Diversification is Overrated
Every investor knows or has at least heard of diversification, it’s the cornerstone of every good investment portfolio. Simple concept: don’t put all your eggs in one basket. Diversifying your investment portfolio will ensure that your investments are spread out and you are not taking more risk than you need to. Just ignore this important concept and your investment portfolio will surely vanish.
You combine these five tips and you are guaranteed to lose more money in the stock market than you have ever dreamed of.
What tips do you have for those who want to demolish their investment portfolios? Any bad investment decisions you have made in the past?
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Ray is an ex-financial adviser and the founder of Financial Highway. Currently working in the financial industry and working towards completing his Chartered Financial Analyst, CFA, designation.