Deploying a bad strategy is a sure way to consistently lose money in the stock market, or lose in just about everything else in life. Ideally, people should use strategies that keep them successful in the long run.
Unfortunately when it comes to investing, retail investors are more likely to embrace “losing strategies”. Here are 4 classic examples that we can think off.
# 1 They Love Being “Active”
It’s a well known fact that the more active you are in the stock market buying and selling stocks, the more skilful you better be.
Think about it this way. If most studies have already shown that active fund managers do not beat passively managed funds, despite the presence of experienced fund managers, why do retail investors still think they can outperform the market by actively managing their investments? It makes absolutely no sense. A retail investor knows less than a professional fund manager, and is unlikely to be able to pick the right stocks at the right time. Why should they be able to outperform the market when fund manager are unable to do so.
Keep it simple for yourself. Look at passively managed funds or ETFs and stick to them. If you want to buy individual stocks, keep it as a small percentage of your overall portfolio.
# 2 They Enjoy Following Trends
Many people are trend followers in life. Be it buying the latest iPhone 7, watching the latest Korean drama, DOTS, or going to the latest shopping mall that TheSmartLocal wrote about.
While it costs you nothing to follow a trend when it comes to buying gadgets, watching TV shows or visiting the shopping malls, the same cannot be said for investing.
When a stock becomes hot, demand would exceed supply. More investors start looking to buy the stocks and there are not enough willing sellers, thus pushing prices up. That in turn brings more attention to the stock, which leads to further price increase. The vicious cycle continues.
Following the latest trend when it comes to investing will always cost you more. Hence, it’s better to invest based on your own knowledge and research, rather than to rely and overpay for stocks based on what other people are talking about.
# 3 They Sell Winners And Hold On To Losers
You buy a stock. It goes up by 15%. You are delighted and cash out your profit. The stock continues to increase. You tell yourself you will re-buy it when it returns to the original price. That never happens.
You buy a stock. It goes down by 15%. You decide to hold on to it in the hopes that it will bounce back so that you can recoup your initial investment. It continues to drop. You hold on to it.
The scenarios above are examples of how retail investors sub-consciously employ sure-lose strategies without even realising it. Instead of holding on to winning stocks and letting their profits run, while cutting their losses quick on losing stocks, they do the exact opposite instead, thus ensuring that they will inevitably lose money on a long enough timeline.
# 4 They Look At Returns, Instead Of Risks.
Expected higher returns always translate into higher risk. That much is certain. As investors, we cannot expect high returns without taking higher risk.
Instead of focusing on higher returns that come (automatically) with higher risks, retail investors should focus on risk, which doesn’t necessarily translate into optimised returns. Investors should be asking themselves if the risk they are taking on is too high for the returns they expect to get.
If an investor is unable to ascertain the risks, then they would be better off passing up on the investment opportunity and to focus instead of investments that they are more familiar with.
Inexperienced investors tend to be put too much emphasise on returns, while ignoring the more important aspect of risk. If a high-risk investment pans out, it gives them further confidence that they were right, and encourages them to put in more money. Ultimately when their investment turns sour, they blame it on the product rather than to recognise that it was a lack of risk management that led to the loss.
Are You Sabotaging Your Own Investment?
It’s one thing to not have a great investment strategy, and to earn lower returns that you could have earned had your strategy been more refined.
It’s a whole different thing when your investment strategy is designed for eventual failure. If any of the investment “strategies” above sound familiar to what you are doing, or someone whom you know, do yourself and your friends a favour by correcting them.
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