Common Mistakes That Rookie Do-It-Yourself Investors Make
Do-it-yourself investing has many advantages. It can provide you with more control over your financial future. It also might save you money in terms of lower fees. Overall, it can be a rewarding and engaging pursuit. However, investing on your own is also fraught with risk. There are a number of mistakes that do-it-yourself investors often make — especially beginners. These mistakes can be costly, so it’s best to avoid them if you can. Here are seven mistakes that first time DIY investors make and how to avoid them.
Not Understanding the Investment
Maybe, as an investor, you’re interested in Tesla stock. That would make sense given that it’s more than doubled in price over the past six months. But what do you really know about the company? You probably know that the company makes electric vehicles. You are likely aware of its well-known CEO Elon Musk.
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However, did you know that Tesla also manufacturers batteries? In fact, they are pioneering work on lithium-ion batteries that power everything from electrics cars to smartphones. That qualifies Tesla more as a “technology company” and not just an automaker.
Today, a good deal of Tesla’s revenue comes from battery sales. Those sales help fund the development of the electric cars. Tesla’s auto are just starting to prove profitable. This is an example of the importance of understanding the company’s you invest in. In fact, knowing exactly what the company does is rule number one for successful investors like Warren Buffett. He cautions anyone against investing in businesses they don’t fully understand. This may be why Buffet’s biggest holdings tend to be in well-known, old school companies like Coca-Cola, Geico Insurance, and clothing company Fruit of the Loom.
Making Too Many Trades
Managing your own portfolio can be exciting. Buying and selling stocks can provide an exciting rush. That thrill can often lead first time DIY investors to make a lot of trades. Too many trades, actually. Making a rapid fire trades is rarely a good thing.
First of all, buying and selling stocks in quick succession means the price of it probably didn’t change very much. You won’t make much of a profit that way. Second of all, a lot of trades usually means paying a lot of commissions. Depending on your investment platform, they can be very expensive. It’s likely commissions will eat into a large portion of your gains if you are constantly flipping stocks. Some online brokerages charge as much as $5 per trade. With those kinds of commissions, the best strategy is a “buy and hold” one.
Also, investors who make plentiful trades tend to fall into the trap of chasing the ups-and-downs of the markets. This is never a smart move. Jumping in and out of stocks should be avoided, as it’s a costly move that rookies tend to make. There’s a reason why most successful investors advocate a long-term strategy.
Going All In On One Stock
Going all in on a single stock is akin to putting all your chips on double-zero at the roulette table. It’s a risky proposition. Sure, Apple’s stock might be on an impressive run right now. However, you never know what might happen in the future. A company’s stock is usually one bad quarter, one unforeseen event, or one disruptive technology away from tanking.
Putting all your money on one stock just doesn’t make practical sense. This is why almost everyone in the investment industry preaches the importance of diversification when it comes to allocating your money. You should build an entire portfolio of promising investments.
As a general rule of thumb, do not allocate more than 5-to-10% to any one investment. By investing in multiple stocks across different sectors, you create a cushion for yourself. If one stock is down, chances are another will be up, thus blunting the impact of the loss on your money. If you bet the house on just one stock, then you’re putting your fate in that company’s hands.
Failing To Diversify
Diversification is not just important when it comes to individual stocks. It’s also important across different sectors. You should not, for example, only invest in technology companies. Or cannabis start-ups. Or oil and gas companies. If that one sector tanks, your investments are all toast.
The best way to diversify is to invest your money across a broad basket of companies that operate in a variety of sectors. Choose stocks that vary from transportation to technology, healthcare to real estate. This is where exchange traded funds (ETFs) and mutual funds can be beneficial. They will spread your money out and ensure your investments are well diversified.
Investing in an ETF, for example, that tracks the S&P 500 Index will put your money into the 500 largest U.S. companies by market capitalization. That’s pretty good diversification. Keep in mind that mutual funds usually charge higher fees than ETFs. The end goal of every investor should be broad exposure to the market that is diversified and not overly reliant on a single stock or sector. Rarely are all sectors of the market up or down at the same time.
Sitting On Cash
Leaving cash to sit idle amounts to a lost opportunity. Money invested is money that is being put to work for you. However, money that is not invested has no chance to grow or accumulate interest. Even small amounts of money shouldn’t be sat on for long periods of time.
If you have $50 or more, it should be invested in a stock, bond, or fund of some kind. This way it has a chance to earn for you. Sadly, too many rookie investors sit on cash. They nervously watch the market from the sideline – either too intimidated to invest or waiting for the perfect price point to enter the market. Those perfect moments rarely come.
The downside is your cash is just sitting there not helping to improve your financial situation. Be smart and a little bit brave. Put your money to work and invest it – all of it. Again, even small amounts of cash invested can make a big difference in the long run. It’s not building any wealth tucked away under the mattress.
Trying To Time The Market
Most traders try to time the market. Most of them also get burned horribly doing so. Anyone who can successfully predict the market would need to be clairvoyant. The problem with trying to time the market – peak highs and bottom lows – is that none of us can predict what will happen tomorrow, nor how it will impact stock markets around the world. Just accept that you are not able to time the market and you will be much better off as an investor.
Remember too that ETFs and index funds were essentially created out of recognition that nobody can really time the market with any accuracy. The thinking is that if you can’t time the market, you might as well just buy and ride the highs and lows. You should make investment decisions based on facts and information that you feel confident in. Then stick with them. Trying to successfully time the market is about as likely as successfully picking a winning lottery ticket number.
Getting Too Emotional
The biggest mistake that first time DIY investors make is getting too emotional about their investments. Being overly emotional about the inevitable swings will lead to mistakes. You might panic about sudden drops, and yank out your money. That’s a rash decision which will cost you. Relax. Let the markets recover. They always do.
The best advice is to remain calm and take a long-term view with your money. If you are closer to retirement, then you need to make sure your portfolio is balances appropriately. It should have a mix of stocks and bonds, and other more conservative investments. That will ensure you don’t lose too much money during a downturn. Trust us, it will help you sleep better at night to not fret over short-term swings.
If you find yourself getting too emotional over your investments, then consider the vehicles your money is in. It might be time to rebalance your portfolio for greater reassurances. Or bite the bullet and pay a professional investor to manage it for you. The bottom line is that your investments should not keep you up at night worrying. If that is the case, it’s probably a sign that you need to make some adjustments or get professional help.