The only constant thing in life is change. The same can be said for the stock market. Stocks go up, and at the same time, they come down. While some people find themselves on top of the world overnight, others cry when it doesn't last.
An investor's ability to capitalize on that change determines investment success or failure. And no, it's not as easy as "Buy low; sell high". If only it were.
When the market is going up, many new investors jump in. Charles Schwab found out that around 15% of current stock market investors began investigating in 2020. I believe all that new blood is great for the market, so I say welcome.
But mistakes get made. It happens to all new investors and veteran ones too. They just don't know what they don't know and have just yet to find out. We all have to start somewhere, and with analysts calling for runaway inflation, not investing is not the answer.
But no one has to lose their shirt. We here at HotNaija have gathered 12 of the most common investing mistakes new investors make so that you will know how to avoid them.
(1). Positive They Will Outwit The Experts:
All of the seasoned investors are wrong, but the new investor is right. Not likely. Now, this isn't unheard of. In 2011, Netflix split its DVD and streaming services, which meant people had to pay more if they wanted both. Netflix lost nearly a million subscribers, and their stock tanked 27% in after-hours trading.
Seasoned investors and analysts alike believe that the lost membership meant Netflix made a big mistake. But despite the supposed faux pas, subscribers and revenues increased by the end of the year. Those who bought it when everyone else was selling would now have roughly 15x their original investment.
Key Takeaway: It can happen, but it's more likely that investors are suffering from the "Dunning–Kruger" effect. This scientific principle says that the fewer people know about a topic they're learning, the more their confidence in the subject.
(2). Too Much Turnover:
Only experienced day traders make money buying and selling within short time frames. This is also called portfolio turnover. A few good trades can make this seem like a good strategy, but this is akin to winning a few blackjack hands, then going all in. All that positive reinforcement leads many investors to move significant money into a fund they've pegged as a winner, only to see all their recent earnings disappear.
On top of that, taxes and fees the investor might not account for at the moment can add up, but don't take our word for it. According to Nasdaq, investors with high turnover earn 15% less each year than those with low turnover.
(3). They Think They Have All The Time In The World:
The average stock market return per year is around 9% per year. So, every seven years, the original investment plus any return doubles roughly. Now, what does that mean in real money? Imagine an investor started investing $100 per month at the beginning of 1970, probably before most new investors were born. If we ingest inflation from then to now, that's about $660 a month in today's money. Over 50 years, this investor invested $48,000, at 10% per year on average; they now have about $300,000. Again, we're adjusting for inflation here, so this investor did sextuple their money.
Now, what happens if that same investor waited until 2010 to start investing and plans to retire in 2020? Lucky them, they would invest $12,000 and maybe double their money to $24,000 if that average held for that 10 years. So the difference between giving the capital 50 years to grow and giving it 10 years is significant. Growth compounds over time.
When returns compound, their original investment is making them money, but now, the money they made in the stock market is also making money on its own. Then the money that the money makes starts to make more money, and so on. That's the power of compound returns, so if the investor waits until age 30, 40, 50 to start investing, they have less time to let compound returns do their work.
(4). Assuming The Market Will Always Rise:
You'll hear stats like, "The average stock market return is 10% per year, but many people forget this is an average. The stock market doesn't go up in a straight line; it goes up and down. But historically, it's always been on an upward trajectory over time.
The same thing cannot be said for any individual stock, but this is true when we're looking at the whole stock market. In 2007, during the housing crisis in the US, the dow went down from a high of $14,000 to $8,000 by January 2009. This represents many shirts lost, but in July 2021, the dow is hovering around $35,000. On average, that's 10% yearly growth. But those who sold between 2007 and 2009 are kicking themselves right now, which takes us to the next horrifying newbie mistake.
(5). Following The Masses
New investors will hear a lot of doom and gloom when the stock market is tanking as it did during the housing crisis in the US. It's scary, and those fears are matched by their declining portfolio, but as Warren Buffett would tell you – 'This is usually the time to buy more of the companies you expect to weather the storm, not sell'.
This is what seasoned investors are talking about when they say – buy low, sell high. Of course, the issue is that you don't always know when the market has bottomed down, so don't pay too much attention to trying to time the market. If you don't need access to those funds in the next 10 years, you're more likely to come out ahead regardless of when you buy during these downturns.
(6). Spending Too Much Time Speculating:
Should you buy the stock or not, it is going to go down further. Can it be caught on the upswing to make instant bank?. Spending too much time deciding whether or not to purchase or sell a stock can backfire! New investors often miss ample opportunities this way. Because they're afraid to pull the trigger, they miss their chance, but this can go in the other direction as well.
(7). FOMO Buying Decisions:
New investors might also let their fear of missing out drive their investment decisions. People who buy out of fear most often miss the red flags or fail to do their research. They get caught up in the moment and often abandon their investment strategy. FOMO can be particularly intense if someone else -- a friend, relative, mentor, or investment guru -- tells the new investor to buy. New investors should know investment opportunities come and go, but they come and go constantly.
Therefore, missing one big opportunity is not the end of the world. Instead, new investors will do better if they have a no-regrets policy when investing. That's not to say that losing money on paper doesn't hurt, but getting overwhelmed with regret will just hold a new investor back from reaching their true potential.
(8). Thinking They'll Beat The Market:
This one is the equivalent of someone believing they can beat a chess grandmaster if they just picked the game up last weekend. New investors need to understand that they are up against seasoned investors in the stock market.
This isn't to say that it won't happen like the recent Robinhood GameStop fiasco, where new investors sent GameStop prices soaring from $35 a share to $347 after collectively following a 'hot tip' on Reddit. But the chances of new investors being on the receiving end of this kind of freak event are even less than becoming internet famous. Why? Because as soon as those new investors start cashing out, that house of cards falls, and someone has to be left holding the bag.
(9). Not Understanding The Investment:
Warren Buffett cautions investors not to invest in companies if they don't understand their business models. Ideally, all new investors should learn how to understand SEC filings. These filings are publicly available online and demonstrate the financial health of a company and its overall strategy. But honestly, some companies are shams and may even be scams. They get investors excited with big promises but have no real way to make money other than generating capital by enticing eager naive investors to drive their stock price up. If an investor doesn't understand how the company makes money, then they should stay clear.
We saw a lot investing in companies with no revenue generation models in the late 90s during the tech bubble, which didn't end well. In December 2020, a company, Luckin coffee, billed itself as the Starbucks of China and was once valued at $12 million. They fooled investors with an alleged network of fake employees and customers and were subsequently pulled from the New York Stock Exchange (NYSE).
(10). They Like A Product:
Investors who invest because they like a brand aren't buying for the right reasons. The goal of investing is to make money, not shower Apple or Adidas with affection. If we want to feel more connected to the brands we love, we should follow them on Instagram, not give them extra money in investments.
This is a bad idea because buying out of love usually results in buying at the wrong time or holding on too long. Investing is a financial decision. If the decision isn't financially based, it's easy to miss red flags that the beloved company is struggling.
(11). Failing To Diversify:
Mistakes will be made, so a new investor mustn't put all of their eggs in one basket. While it's true that younger investors can typically endure greater risk, all the more reason to diversify. There are several asset classes to consider;
A. Stocks
B. Bonds
C. Real Estate
D. Exchange Traded Funds (ETFs)
E. Commodities
F. Cash and short-term equivalents.
An investor can also invest both domestically and foreign. They can purchase mutual funds that invest in large companies or small ones, and of course, they can invest in physical real estate. However, diversification also has its negatives. It favours a long-term investment strategy than a short one, so they may not be in the best position if investors need their money now. A diversified portfolio may also have higher fees, so every investor should weigh the pros and cons.
(12). Waiting To Break Even:
Here's what this means; if an investor paid $1,000 for a stock and it sank to $500, they would wait until it gets back up to what they paid for it to sell it so they can at least break even. This waiting game is a mental fallacy, meaning it goes against logic. If an investor has already decided to sell when it gets back up to what they paid for, they intuitively know they've picked a loser. It happens.
If a new investor has identified a loser in their portfolio, most renowned investors have too. That stock is unlikely to ever get back up to what they paid for it. The more likely scenario is that it just keeps losing money. Instead, investors should cut their losses by selling and putting that money somewhere that it will grow.
(13). Lack Of Patience:
Slow and steady wins the race in investing. As new investors, people often hear these stories about winning big in the stock market and becoming a millionaire overnight. But those occurrences have similar odds to winning a lottery for a new investor. Chances are, most new investors have chosen to invest in the stock market because they understand that buying a lot of tickets to win a lottery isn't a great investment strategy.
New investors who can stay on the course and be patient while learning from their mistakes will perform much better than those who see the stock market as a get-rich-quick engine. If it was that easy to turn $1,000 into $1 million, everyone would do it, and that's why they don't. Congratulations on your way to becoming a veteran investor. Cheers!
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