Years ago when I was in college I have seen people lose fortunes in stock market, and the advice I got from them is that investing in shares is committing financial suicide. They have seen the devastating effect of stock market crashes and burnt their fingers. Back then I neither had the knowledge or the money to invest in stock markets.
After working many years I managed to save a few pennies, and decided that I need to base my investment decisions based on sound investments principles so that I don’t make the same mistakes and burn my fingers, so read the book ‘The Intelligent Investor’ by Benjamin Graham, which is widely considered by many as one of the best books ever written on investment. It was an quite useful, however it did not have the practical information that a lay investor needs, so I decided to I need to a bit more reading before I am ready to take the plunge into investing………and the next book I got my hands on was ‘Smarter Investing’ by Tim Hale, it was one of the most useful book I ever read, Tim puts almost everything a lay investor need to know in simple terms……..however being a perfectionist I decided I need to read even more…………………and got my hands on to ‘The Intelligent Asset Allocator’ by William J. Bernstein which is a masterpiece on Portfolio construction. After all this reading I am confident that I am ready to take the plunge into investing into stock market and even share my knowledge.
I plan to write a series of blogs on investing in the next few weeks, below is the first installment of the series.
Below are some of most popular ways people lose money in shares.
Buying High, Selling Low
People are very short sighted when it comes to investment decisions, they look at the past 3 to 5 years returns and expect the same returns in the next 3 to 5 years, instead of looking at past 30 to 50 years. However, market runs in cycles of bull and bear markets, investors typically buy in the bull market when share prices are raising thinking what happened last few years will happen in the future, when the bull ends and the market starts falling they panic and bank their losses by selling the shares. Though it is obvious an investor is expected to do the opposite. Studies show that vast majority of the investors follow this approach underperform the market by a good margin.
Buying individual shares
Many people buy individual company shares without reading balance sheets and financial statements of the past few years. An investor needs to diversify by investing in at least 15 individual companies. The effort required to do the research on these many companies is too great and not worth it for a individual investor, many people don’t do it before investing.
Lack of understanding of the underlying Risks
Risk and return are intertwined, stocks deliver the best returns of all the asset classes but when the market crash, stocks can produce loses in the same magnitude. The return history of at least past 30 to 50 years of the asset class should be looked at understand the risk. The investor should be prepared for the potential loss that the stocks can inflict, and many times he or she is not prepared for the downside.