It’s been a record-setting time for stocks. Since the beginning of 2012, the S&P 500 has made 251 new highs. As of mid-November 2017, we have seen gains of 15% for the S&P 500, 26% for the NASDAQ, and over 18% for the Dow Jones Industrial Average. Since the market rehabilitation year of 2009, the NASDAQ is up over 400%.
What’s more, markets are continuing to grow pretty much across all sectors. This has made life easier for investors who own diversified baskets of equities, but tougher for the traditional stock picker.
As the market boom rolls into 2018, you may be reviewing your investment strategy to ensure that you are making the most hay while the sun shines. This is a good practice, as complacency in the market isn’t a good thing. But neither are knee-jerk reactions or emotional decisions. So, this is a good time to review a few bad habits investors should avoid.
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Bad Habit 1 – Relying on Past Performance
While past performance may speak a tremendous amount about a person’s ability and likelihood for success, the same isn’t true for a stock. It’s just not that simple.
Sure, it’s easy to look at a chart of stock performance and conclude that because a company did well last year, they are a safe bet for this year. Not necessarily. While a company may enjoy an exceptionally good year and have a rise in the share price, this good fortune doesn’t guarantee future success. The same holds true for stocks that have averaged good returns for several years. What’s most important for investors is to consider whether the company is positioned to continue to grow.
So, when investing in individual stocks or mutual funds, focus on trying to understand why an investment had its past performance. It’s crucial that you look deeper than the numbers and analyze what’s underneath them. Just as all stocks are not created equal, some businesses are better positioned than others to deliver sustainable growth over time. My advice is always to try to understand what the prospects are for the next five years for that company or fund.
Bad Habit 2 – Narrow Framing
Plain and simple, it is a bad habit to invest too much in one particular company. You may feel you have a deep understanding of a company, and they may be doing well. But beware of putting too many (nest) eggs in one basket.
If you are investing 80, 50, or even 40 percent of your investments into one company, you are putting yourself in a precarious position. While Coca-Cola, Home Depot, Amazon, and Cisco are solid companies, it’s not wise to put a majority or all of your investment income in one company. If you do, your returns are at the mercy of one stock or fund, versus being spread prudently across a handful or more.
Bad Habit 3 – Benchmarking
There are a lot of different asset classes vying for the top-performer title throughout the year – large-cap, small-cap, the energy market, European markets, Asian markets and bonds. Try not to measure the performance of your portfolio against the best performing market of the year. Not only is it exhausting, but this practice of benchmarking also leads inevitably to disappointment.
Instead, focus your energy on making sound, balanced and diversified investments.
Bad Habit 4 – Herd Mentality
I’m sure you’ve heard this one before: “If all your friends were jumping off a bridge, would you jump too?” The herd mentality can affect our behavior in all areas of life. The investing world is no exception. People hear about a particular skyrocketing stock from friends or the media, and they’re ready to jump on the bandwagon. Typically, this is a bad investment strategy. Just think of some historical instances of herd mentality and you’ll see what I mean. Remember Holland’s tulip bubble in the seventeenth-century? How about the home buying bubble in the mid-2000s? Neither ended well.
If you’re constantly chasing the next “hot stock,” you’ll run yourself ragged and end up disappointed. Instead, stay committed to diversifying and balancing your portfolio, and resist the urge to jump off the proverbial bridge.
Bad Habit 5 – Anchoring
Most of my investment advice generally focuses on not changing your investments too frequently and reactively. Anchoring addresses the other side of this spectrum. The term “anchoring” refers to when you have an emotional attachment to a particular investment.
Let’s say your father bought you some shares of a stock when you turned 13. You’ve gotten so comfortable with that particular investment, you aren’t willing to sell. Here, your emotions are running the show. It might feel like that particular stock is safe because you’ve owned it so long, but remember the fate of stocks like Wachovia, Lehman Brothers, Enron, and TEPCO. When you let emotions run your investment strategy, you cease making sound, rational decisions. That’s not a good place to be.
In the world of investing, we have to keep our emotions – particularly greed and fear – in check. It’s easy to get hungry in the hunt for the best stock, or to get scared into “going to cash.” But if we look at investing rationally, we see that the best way to grow money over time is the tried and true system of balance, diversification and the age-old virtue of patience.
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