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Investing Mistakes

There are quite a few mistakes that investors can make when beginning their investing career. In this weeks blog I will be discussing 4 of the major mistakes that I have witnessed occur to others and some that I have also fallen victim to. It is important to keep in mind that nobodies financial journey is perfect and we all make mistakes along the way but if you can avoid them you are just one step ahead of everyone else. Keeping these mistakes in mind will help you have a fruitful investing journey.

Mistakes

  1. Not Understanding the Investment
  2. Lack of Patience and Letting your Emotions Rule
  3. Timing the Market
  4. Failing to Diversify

Not Understanding the Investment  

One of the biggest mistakes an investor can make is not understanding the company they are investing into. Previously we have talked about the importance of understanding the underlying holdings of ETFs but it is just as important to understand the companies you are investing into. You may not be fully aware of the complexities of the business but you should have a general idea of what they do and how their business model operates. Warren Buffet has warned against investing in companies whose business models you do not understand. While it is important to avoid bias towards companies who we favor due to what they produce, it is important to understand the fundamentals. A valuable skill any investor can learn is the ability to read a balance sheet and understand the behind the scenes business operations of the company they are investing into. The amount of debt, liquid assets, and many other factors can say a lot about a company.

Lack of Patience and Letting your Emotions Rule

These two go hand in hand. Value investing is the best way to sustainably and significantly grow your money. It is important to understand that as a value investor you are in it for the long game. By not having patience, selling in market corrections, and buying at peaks you can quickly dwindle down your money. It is important to understand that in a bear market it is only a loss if you lock it in at a loss. As long as your money is in high quality investments there is no need to worry when the value of a stock goes down because the market has proven that it will return again. Understand that whether you are happy or sad our emotions can cause us to make poor decisions. One method people use to remove their emotions from investing is Dollar Cost Averaging which we spoke about last week (What is Dollar Cost Averaging?). This method allows you to systematically put an amount of money into the market at whatever intervals of time you desire to take advantage of market volatility. Whether the market is up or down you invest, resulting in a lower average cost per stock. Whatever method you choose for investing remember that your emotions should have no role in it.

Timing the Market

You may of heard about people attempting to time the market. A popular term floating around is “buying the dip” or options trading would be another way people attempt to time the market. When the market is low it is a time for investors to potentially add more assets into the market but if you are attempting to gain a profit off of every small correction in the market you are bound to lose money. The goal for value investing, the type of investing I recommend to everyone is to hold quality investments for a long period of time. Picking the time to invest in the market is not as important as investing as early as possible. On average the market returns 10% annually which means the earlier you invest the earlier you will have compound interest working for you. Picking a time to enter the market will only result in an inconsistent way of making/losing your money. Timing the market also leads to emotional investing and attempting to get your money back from a loss similar to gambling. Patience and consistency in the market will lead to great results.

Failing to Diversify

Diversification is an extremely important role of investing and by not diversifying you are not taking advantage of everything the market has to offer. Individual stocks tend to go up in value when their sector goes up. The only difference is the degree of which that stock increases.  It is impossible as investors to know what sector will go up. By investing in each sector we can take advantage of sector increases. Failure to diversify creates unnecessary risk. In this case it doesn’t matter your level of risk tolerance you should balance the type of investments you have in each sector of the market. In this way you are not hit as heavily when a sector is down.

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What is Dollar Cost Averaging?

Dollar cost averaging involves investing a dollar amount on a regular basis no matter the state of the market. DCA allows the investor to separate investing from their emotions. Investors can avoid their psychological bias and stay away from the fear and greed that comes with investing.

In this method a long term investor can take advantage of a bear market and see it as an advantage to buy more shares. DCA helps the investor by allowing the investor to purchase a greater amount of shares when there is a correction in the market and a smaller amount of shares when the market is high.

The approach is consistent and can help the investor meet their long term financial goals.  This method typically results in a lower average cost compared to a lump sum purchase of shares.  Lump sum investing is when an investor puts all of their money available at one time. Lump sum investing can result in higher returns if invested at the right time within the market. History favors lump sum investing in terms of profit two thirds of the time. DCA on the other hand has proven superior in avoiding losses. Due to these reasons a person should have a good understanding of their risk tolerance before choosing a method of investment. Find out more about risk tolerance on our Instagram @therichcollegestudent. DCA is not appropriate for everyone but it is appropriate for those who want to invest in individual stocks and wish or need to invest regularly over time. It can help the investor avoid mistiming the market and investing all of their money at a market high.