Allowing emotion to drive investment decisions, chasing the latest ‘hot’ stock, losing sight of the big picture – these could all lead to an adverse investment experience.
The first step to investing is to understand your goals – and put in place a plan to help you achieve them. How much will you need to fund your retirement, for example? The over 55s aim to save almost £100,000 for their retirement. However, a recent survey for HSBC shows that, at current rates of saving, they will only manage to accumulate £31,900, missing their goal by £67,600 or 70%.
“Many people underestimate just how long they may live in retirement and how much money they will need”, said Darius McDermott, managing director of discount broker Chelsea Financial Services. “Look at it like this: a 20-year retirement is the equivalent of 500-plus two week holidays, how will people pay for that?”
1. BUYING HIGH, SELLING LOW
Most mistakes investors make are driven by a lack of knowledge or by emotion, such as greed or fear.
"Investors often jump into strong-performing funds or asset classes believing that out-performance will continue. Conversely, they sell investments that have fallen, believing they will lose money if they stay put" said Patrick Connolly, head of communications at AWD Chase de Vere, the independent financial adviser.
“The result is that too many people invest at the top of the market after strong performance has already been achieved and sell out at the bottom when losses have already been made, having a thoroughly miserable experience along the way. Any investment bandwagon will reach its peak just as the last investor comes on board. From there it’s likely to be a downhill journey.”
How many of us have been tempted to buy last year’s top performer? Do so at your peril.
“It’s very easy to get caught up in a trend, but when something is becoming fashionable in the investment world, it is often the wrong time to be investing,” said McDermott. “Make sure you do your research and invest in something you believe in rather than trying to make a quick buck.”
2. TRYING TO TIME THE MARKET
Research commissioned by Barclays Wealth reveals that investors’ habit of chasing performance is costing more than 1% a year in returns. The academic paper from Cass Business School, based on performance and sales data figures from 1992 to 2009, shows that market timing decisions by retail investors in mutual funds have reduced returns by an average of 20% over an 18-year period. During that timeframe a ‘buy and hold’ strategy would have turned an initial investment of £100 into £311, but poor market timing abilities of the average UK retail investor means the investment would only be worth £255.
Tony Lanser, a director at Barclays Wealth, said: “Retail investors have long been chasing returns by attempting to time the market. When making an investment decision, investors need to consider a fund’s long-term outlook rather than simply playing the market for short-term gains or capitalising on current trends.”
“In fact, as the industry adage goes it is time in the market that counts, not timing the market. It is nearly impossible to time the market correctly and by missing just a few of the best days, you can significantly impact your portfolio’s performance,” said McDermott.
3. LISTENING TO SHORT-TERM NOISE
The right approach for investors is to have a long-term asset allocation strategy and stick with it through good times and bad. That means not getting swayed by short-term noise, performance or market sentiment.
“Investors too often ignore sensible long-term asset allocation and focus too heavily on short-term investment performance,” said Connolly. “Even though they may invest with a sensible five - or even better ten-year time horizon, they expect their investment funds to perform from day one. If a fund is under-performing after six or 12 months then too many investors head for the exit.”
“At any given time, in a properly balanced portfolio, you should expect some funds to be performing well and others to be doing badly. This isn’t necessarily a sign that those doing badly should be sold. In fact, it could be more worrying if all investments were doing well as this suggests they may be highly correlated and so could potentially all fall together, which would have a devastating effect.”
Remember that you are investing for the long-term. Focus on your goals and stick to your plan.
4. HAVING ALL EGGS IN ONE BASKET
Diversification is the cornerstone of any well-balanced portfolio. Put all your eggs in one basket and you could get stung, as investors in tech stocks before the dotcom bubble burst or those who piled into bricks and mortar before the recent property crash can testify.
“At the other extreme, some investors hold so many different asset classes or funds that the impact of any individual part of their portfolio is diminished and they end up with a glorified (and costly) global tracker” said McDermott.
5. LOSING YOUR BALANCE
“When some investments perform well and others do badly, it is important to rebalance in order to ensure that your portfolio remains in the right shape to meet your objectives and attitude to risk,” said Connolly. “This is particularly relevant during volatile times as the risk profile of your portfolio could change significantly over a short period.”