Look for these common mistakes investors make to minimize your risk
It is because people often look for the next fashionable investment and investment managers pry off that. Often investment managers are found caught in the middle of the latest investment craze and lose clients money and still receive their management fees / Management Expense Ratios (MERs) despite poor performance. This is a common phenomenon yet there is little true analytical analysis by the average investor. I would encourage you to ask yourself, how many people truly profit on “hot investments.” How many people profited from the housing crisis that spurred the Great Recession a few years ago? Alternatively, the “Dot-com bubble from 1997-2000?
Below are the generally most common mistakes investors make:
- Not knowing how monetary and fiscal policy affects investments: Failure to understand how monetary and fiscal policy greatly affects your investments’ returns. It is imperative to understand how central banking and government spending domestically and outside your investment jurisdiction. Being able to recognize whether current economic conditions are long-term and sustainable or whether the policies invoked are short-term and unsustainable. This now the most critical issue facing investors.
- Failure to understand risk: By not understanding the current and future risk factors puts you at an almost guarantee to lose money. Nobody likes to lose money. I have never met a person who likes losing money. Therefore, the obvious solution understands what the risks are with your current portfolio. If you are certain your investments are safe, then chances are you are the one who’s most at need of a risk assessment of your portfolio.
- Holding a loser until you break even: Continuing to hold a losing investment despite the small likelihood of recovering is dangerous. You have a $100,000 investment that drops 50%. How much must it gain to break even? 100%–after losing 50% of a $100,000 investment, you are now at $50,000 and an excellent return would be 50%, which would put you at $75,000, yet you are still short $25,000 of your original return. Keep in mind you need to consider the purchasing power parity of where the date of your initial investment compared to its current state. Before you rush into investments, perform due diligence so you are not taken to the cleaners.
- Impatience: Expecting an immediate high return on investment is irrational. Few times, there are successful stories of impatience being a good strategy.
- Investing using emotions: There are few things in life where emotions should be the primary driver when making a good decision. Using emotion to dictate your investment strategy is a recipe for disaster. When investors lose the most money, it is because they are using emotion rather than logic backed by empirical research.
- Placing too much emphasis on past-performance: Evaluate a money manager’s performance during a bad year, not just last year’s performance. If you notice the losses are less than similar investment vehicles during a bad year, then chances are there is solid risk management controls in place. The importance of this cannot be overemphasized. Anyone can make a positive return in a bull market, but a good money manager is one who can minimize losses during a downturn.
- Investing near the top: It is when you invest near the top of a bull market because you sat out too long. If you see your investment manager encouraging you to invest in unproven IPOs who have yet to have a profitable quarter, yet their stock price is through the roof, it is wise to continue to sit out until a correction takes place.
- Failure to take profit: It is unrealistic to expect a stock to continue to rise indefinitely. Therefore, if an investment has increased significantly above the overall market, it is wise to sell to take a profit. Trying to excessively maximize profitability causes you to lose as the investment declines in value.
- Following the crowd: Investing with the herd. Being encouraged to invest in a something because your neighbor is doing it. What is their analysis based on? Does their advisor understand the underlining of how monetary and fiscal policy affects your returns? You need to look at your individual financial plan and not compare it to someone else’s financial plan. More times than not you will not earn a positive return from a “hot tip.”
- Being narcissistic: Thinking you know more than you really do, leads to confirmation bias. You may correct in one aspect of investing such as reading a company’s financial statements, but may not be able to read your federal governments’ true balance sheet, which affect spending thus impact consumption, and savings that affects your investment.
- Borrowing too much: An individual borrowing too aggressively to try to strike it rich positions them to lose their shorts. Institutional investors have a chance to receive bailout, but as an individual investor, you do not. So manage your borrowing.
- Buying something you do not understand: Not understanding what you are investing is asking for trouble. Failure to conduct proper research and not understanding the risks and rewards of the investment has been a long-standing issue in the investment community.
- Not reviewing your portfolio: If the last time you looked at your portfolio was when President G.W. Bush was in office, then you have a problem. It is essential to review your portfolio and do not expect your money manager to have your best interest at heart.
- Paying high fees: Paying high fees can easily erode your annual gain and cause further losses during a down year.
- Overconfidence in the Ability of Investment Managers: Most investment managers receive payment for their work—good or bad. This influences their drive to conduct up to date research. However, good investment managers will research regardless of current market conditions.
As economic uncertainty grows due to macroprudential and monetary policies misalignment, it is only prudent to prepare now to minimize your risk of losing all what you have gained during this last bull market. As we say: “It’s better to be one year too early than to be one hour too late”.