COMMON ERRORS IN INVESTMENTS
The wide variety of securities that exist today, make the modern investor prone to all sorts of temptations to meddle with bad’ investment. It is as such very rewarding for investors and prospective investors alike, to be able to recognise the fine divide between a good’ investment, with a high chance of success, and one that will fail. Let’s proceed then to learn to identify an investment that sucks.
One characteristic of a bad’ investment is the absence of a well-defined strategy. Even if there is a strategy, its potency is a monumental determinant of success. A strategy of investing in a few securities in one or a couple of industries is not powerful enough. Such a scheme should be rectified by investing in more diverse security types chosen from various industries. This tactic is to help spread risk in the investment, to increase the chance of obtaining the expected returns.
It is an appalling practice to attempt to time the market – sell lows and buy highs. What every investor has to bear in mind is that fads only lead to frustration in investments, and anyway, when a security becomes popular, it no longer bears any advantage, because any benefits would have been already factored into the price of the security. There is a tendency for prices of a security to rise, fall, rise and fall and so on, in the short and medium term. If one sells a low to buy a high, a loss may be incurred as it is very likely that the high will be bought at a time when it has reached its peak in price and just on the brink of establishing a trough. In so far as one researches sufficiently to invest in the right combination of securities, it is wise for the investor to keep calm when short and medium term fluctuations occur, and hold onto the existing portfolio consistently.
The habit of frequent trading is dysfunctional because it leads to excessive and unnecessary commission and transaction costs, all of which can massively reduce expected returns. It can be contended that the rewards that may be possibly gained from following fads and timing of the market are by far outweighed by the risks involved. The focus of an investment should be on the long-term returns rather than on short and medium term advantages. There is evidence to support the fact that an average portfolio when held to maturity provides much greater returns than frequent selling and buying of the constituent securities. Apart from commissions and transaction costs that are saved in a buy-and-hold strategy, there are tax benefits also to be gained, reason being less tax is paid on securities in a portfolio held to maturity, than are paid in frequent trading.
A weak investment strategy has a bias towards equities or bonds. In the long-term shares have proven to amass greater returns than bonds. However, it is good investment practice to have fair amounts of equities and bonds in ones portfolio. An explanation for this is that returns from equities and bonds are affected differently by economic changes, and holding both securities in a portfolio, does guarantee some benefits irrespective of the change.
It is inadvisable to expose investment to fads and insider tips. If something is too good to be true then it probably is. Although every investment will have a trace of imperfection, a lot of grave errors can be eluded if the investor, without fail, bears the big’ picture in mind, and takes calculated risk, in order to secure a handsome return in the long-term.