When I travel for business, I frequently run into people who ask me for tips that will help them improve their investment game. It’s like a weekend golfer asking Phil Mickelson for tips on how to hit a golf ball farther and straighter. It’s very difficult to explain something as complex as a professional-grade golf swing in the context of a 30 second sound bite. But I’m sure that Mr. Mickelson has a few ‘tips’ ready to go when he is approached by inquisitive fans.
I have a few investing tips that I’ve developed over the years, which are simple but very powerful. Do these three things and your investing game will improve.
Take a close look at your portfolio and ask yourself this question: “how much do I know about the things I own?” You’ve probably heard it before – “Never invest in something that you don’t understand and feel comfortable with.” And yet this is a classic trap for inexperienced investors. It’s easy to get into trouble by falling for a “hot stock tip.”
I’m no different than anyone else when it comes to falling into this trap. It’s just that after getting burned a few times I eventually figured out that it isn’t a good idea. The next time you read about or hear someone talk about an opportunity to “get in on the ground floor” of the next Apple or Google, run – don’t walk – to the nearest exit. And if you just can’t get that stock tip out of your head, then do the next best thing – do your own homework and find out if there’s anything of substance to support the claims being made.
Now look at the positions in your account that are worth less than what you paid for them. Are you as confident in these investments as you were when you first bought them? Or are you simply holding on because you don’t want to take a loss? Don’t make the mistake of “doubling down” on a losing trade. This is a variation of the “throwing good money after bad” warning that most of us got from our parents when we were just starting out as newly minted, independent consumers. When you invest in a stock, it’s easy to develop an emotional attachment to it. It becomes your “baby” in a way, and it can be very hard to let it go.
Many inexperienced investors will react to a poor investment decision by throwing more money at it, in the belief that eventually the stock will go back up, and they’ll make even more money. But history shows that it’s much better to cut your losses quickly and move on to another idea with most of your money intact.
Check your ‘concentration risk.’ This is a variation of “don’t put all your eggs in one basket.” When it comes to investing, this turns out to be especially good advice. If you put too much of your money into one stock, you are taking a big risk. If the stock takes a big hit, the effect on your overall wealth is magnified.
But if you spread your money around so that you don’t have more than 5% of your money in any one stock, and add some bonds and perhaps a little gold to the mix, then you will reduce this kind of risk. If one of the stocks in your portfolio were to go belly-up, you would only lose a small part of your bankroll.
These tips are simple, and may seem obvious to many investors. But they also happen to be some of the most often violated rules of common sense. If you have the discipline to follow these 3 tips, you will see a noticeable improvement in your investing results because you’ll be avoiding some of the biggest and most costly mistakes every investor makes.
When you stop and consider that a good return on your investment dollars is 10% per year, avoiding a big mistake that could potentially cost you 20% of your money is pretty important. A 20% loss would take you 2 years to recover. Avoiding it is worth its weight in gold.