It wasn’t that long ago that most people’s perception of an investor was either a character from The Wolf of Wall Street or someone with an enormous mobile phone, a copy of the Financial Times and three 1980s-era PC monitors on their desk. Times have changed, though. Hundreds of millennials are downloading investing apps, picking stocks, transferring their savings and then waiting for their investments to deliver bumper profits. If only it were that simple.
The reality is somewhat different. There are many pitfalls to trap the unwary, and even seasoned investors with good track records may face challenges. Here’s our pick of the top five mistakes investors make, and how you can avoid them:
1. Being distracted by the headlines
Bad news sells papers and attracts online clicks, and it makes some investors nervous because they think the markets might get spooked. With the rise of the internet and instant news, there’s always something to worry about. Consider the last five years: Brexit, coronavirus, the conflict in Ukraine and the cost-of-living crisis, to name but a few. For many, this means ‘panic stations!’ But the markets are more resilient than we give them credit for, and most of the time people’s worries are already priced in.
When the markets are actually taken by surprise, the key is not to make rash decisions. Has the event really affected the value of your investment or its potential in the longer term? Do you have other investments that will cover falling values in one asset class? Markets generally recover more quickly than people expect, so it’s almost always worth patiently waiting things out.
2. Trying to time the market
Setting goals for your investments with realistic timeframes gives you something to aim for, whether that’s saving for a deposit on a house or for higher education, splashing out on a luxury holiday or putting funds aside for your retirement. Having mapped out their game-plan, a lot of investors then wait for the right time to enter the market. But what if there is no right time?
It’s very tempting to buy into the negativity that comes with the bad news mentioned earlier because people often believe the markets will keep falling. Then, when they reach rock bottom, you make your play and dive in. But what happens if they keep falling? The reality is that time in the market is far more important than timing the market.
Since it opened in the early 1980s, the FTSE100 has grown by nearly 700%, while the S&P500 is up around 500% since its low point during the global financial crisis fifteen years ago. There have been ups and downs since, naturally, but the overall trend is up – something you would only appreciate if you’d been invested for the long haul. Rather than trying to buy low and sell high, buying high and selling higher can be a much more effective strategy.
3. Keeping hold of losers
One of the biggest issues investors face is what to do with stocks that are falling in value. Many people think it makes sense to sell quickly and cut their losses, while others will hold onto a stock to see if it recovers. If the company’s share price is falling because competitors are offering superior products and growth has faltered, or the company’s management are taking unnecessary risks, then it’s probably a good time to sell. As legendary investor Warren Buffet says: “If you find yourself in a hole, stop digging.” For this reason, holding onto a loser in the hope that it will turn the corner is one of the biggest mistakes you can make. If you cash out, re-assess your portfolio and then reinvest in a structural winner, you’ll be glad you changed your strategy at the right time.
4. Believing cash is king
It’s rare for investors to face double-digit inflation. When prices rise as quickly as they have been in late 2022 and early 2023, people’s wages are unable to keep pace and their overall spending power falls. To combat inflation, banks usually raise interest rates because this makes borrowing more expensive and encourages people to save instead. However, as banks won’t raise interest rates above inflation, savings quickly devalue and cash sitting in a current account doesn’t generate more money in real terms.
Investors could consider other highly liquid asset classes if they are to counter the negative effects of inflation on cash. Many still opt for the traditional 60/40 (shares/bonds) split in their portfolios because investing in high-quality companies selling essential goods and services is usually a solid strategy in uncertain times.
5. Putting all your eggs in one basket
You might occasionally hear about a company with a share price that just keeps growing. It may be tempting to jump on the bandwagon and invest the bulk of your savings in such a company. However, bubbles tend to burst, much like tech stocks just after the millennium.
Simply put, having a diversified portfolio means spreading your investment between lots of different securities and asset classes. This reduces your risk profile, and it should help you achieve steady returns over the long term. As a general rule, the greater the proportion of equities in a portfolio, the more volatile the investments will be and the greater the risk. If you have a higher proportion of safer government bonds, your overall risk is likely to be lower.
The beauty of having your eggs in different baskets is that your investments are less likely to be affected if one stock falls in value or there’s a general market downturn. This is because there’s traditionally been an inverse relationship between stocks and bonds.
Investing can be extremely rewarding, both personally and financially, if you pay attention to certain key principles and know your own behaviour as an investor. The next worrying headline is just around the corner, but we hope our How To Invest series will help you weather the storm.