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Friday, 21 July 2017
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Five Classic Mistakes New Share Investors Make

Believing everything you’re told. If Heaven had been a stock market Moses might have come down from Mount Sinai bearing two entirely different stone tablets. The Ten Commandments of equity investment perhaps, a philosophy designed to sell investment products and keep the clients in them with as little hassle as possible.

They might have read something like this:

  1. The market always goes up.
  2. Buy and hold.
  3. Invest for the long term.
  4. Diversification.
  5. Rely on the miracle of compounding returns.
  6. Invest in businesses not stocks.
  7. You can’t time the market.
  8. If you aren’t willing to own a stock for ten years don’t think about owning it for ten minutes.
  9. Our favourite holding period is forever.
  10. In the short term the market is a popularity contest. In the long term the market is a weighing machine.

And much like the real Ten Commandments most beginners in the stock market adopt these subliminal directives without really arguing them through or asking “Do they make us money”, because I’m not sure they do. These are philosophies designed by product sellers to keep us invested, philosophies that serve the financial industry’s purposes first and ours second. So start out with a blank canvas, not a brain befuddled with stock market clichés.

Not having a Plan. The stock market is not easy. Approach it without a business-like structure and you might as well shake a bag of money off the top of a building. Would you give $10,000 to a stranger to invest if they didn’t have a convincing framework that worked? No. So treat it like you were running a business. In a business you’d have systems, records, rules, a budget, goals, risk management, attrition and constant improvement. Without method and reporting, without structure, nothing will improve. The alternative is to do what most new investors do, make it up as you go along. Your call.

Pride and Prejudice. Making money is not about predicting the future, it is not about setting stocks in stone on the back of faultless long term analysis, and it is not about being right and having faith. It is about entering stocks with a high probability of them going up over your chosen timescale. That’s the best you can do. It doesn’t involve predicting the future. It doesn’t require your judgement to persist beyond the moment of purchase. It involves playing the odds, and it is done on the understanding that things change. Professional traders know this. They are not proud. They know that things will change, that they will get things wrong. The difference is that they do something about errors rather than stand by some grand but flawed declaration through thick and thin. There is no room for ‘Pride and Prejudice’ in investment. There is no room for personality. For ‘Liking’ or ‘Hating’. Those are emotional responses which have no value in a stock market devoid of emotion. Understand that investing in share prices rises is not about black or white, it’s about probability and your game is to narrow the odds. If you can understand that anything is possible and that no-one knows the future, least of all, you are half way to being ready. Let’s face it, if all the Kings and Queens, Presidents, Central Bankers, Bankers, Brokers Financial advisers, accountants, Doctors and taxi drivers didn’t know there was going to be a global financial crisis how can you possibly know what’s going to happen next. No-one knows what’s going to happen next. The best you can do is invest in the likely, based on your research, but be watching when it goes wrong and be decisive when it comes to doing something about it. No matter how much research you do, things change. This is not a job for someone who has ‘faith’ in stocks or the market, in anything.

Not selling. The often subconscious suggestion that you should never sell comes from years of indoctrination that the market only ever goes up, that doing anything short term is rash and that because intelligent investors like Warren Buffett ignore the short term, we should too. But not selling is the Achilles heel of any investor.

As you’ll hopefully find out very quickly, selling is cathartic, it puts you back in control, with cash, with all the options in front of you. When you sell all the emotion, the fear, the greed, and the sleeplessness, disappears, and suddenly you are waking up hoping that the stock that was upsetting you, goes down, having spent the month beforehand ripping your hair out because it wasn’t going up. Selling turns everything on its head. Holding cash is a powerful position. Do it and do it often as a beginner because you learn more from selling. Selling invites analysis, of what happened, and through that experience comes improvement. Hold a stock until it goes bust and you learn nothing. And a couple of sidenotes. The financial industry is here to get you in not let you out. They almost never sell. The decision to sell has to be yours and, if you use a broker or an adviser, you will have to assertive to get it executed. And the last thing, if anyone ever tells you that “If you never sell you never take a loss”…they’re an idiot.

Being short term. Sorry, but anyone that plays the market in the short term goes nowhere in the long term. How many people have to say this before investors learn it. Does every investor have to lose money first? Experience will teach you that you will not make money if you focus on today’s stories and ideas. You will make money picking stocks that you expect to go up forever, not go up today. Investing is not for the impatient. If you are impatient you have unrealistic expectations that will not be met and ‘Expectations met’ are the root of all happiness. If you want to be happy and successful as an investor, lower your expectations, don’t rush anything, and lift your gaze to the horizon. Investment is about consistent returns over a long period of time, it’s not about making a killing.

WHAT TO DO

Let me propose an alternative Ten Commandments, the Ten Commandments for any new investor. They look like this:

  1. Focus on just a few stocks. You cannot transform yourself with twenty plus stocks. If you want extraordinary returns find one to five stocks that you get to know very well.
  2. Do the work. Spend one hour doing work on a stock and you will end up in the top 1% of people that know anything about it. Do ten hours work and you end up in the top 0.00001% of people that know anything about it. Someone who has followed and traded the same stock for a year has an even bigger edge. Get to know stocks. Not all stocks, just a few. Find some favourites.
  3. Be contrarian. There is no transformation in playing with the herd. Learn to identify extremes. Armageddon is opportunity. I doubled my money in Elders one year. Could have tripled it. Doing the work and spotting the turn is where the money is, in what the market doesn’t expect not what it knows.
  4. Develop a technical discipline. I don’t believe that technical analysis will make you rich alone but it is a tremendous risk management system. A share price is not a line on a chart, that line is the representation of thousands of people saying “You’re right” or “You’re wrong”. That’s a useful piece of information. So listen. And when they start telling you you’re wrong, don’t be smart.
  5. Network. Ten ears are better than two. Expand your group of investing friends, even the dull and ignorant have their stories, you only need one or two ideas a year and so what if you waste a few hours over a bottle of wine and strike out.
  6. Use everything. Use fundamental research and technical trading skills. It’s all contributory information so use it all. Too many value investors and traders are blinkered. Why? Pride? There’s no place for that.
  7. Don’t make mistakes. You cannot transform yourself with good stocks if bad stocks are constantly chopping you down. Controlling losses is easy because they are right there in front of you on your spreadsheet. Sort them out first.
  8. It’s about stock prices not businesses. It’s an arrogant investor that thinks their money is invested in a business when the herd controls the share price. Share prices are half psychology, half value, not 100% of one or the other.
  9. No ego. There is no-one that good at investing. No-one that cannot learn something new. You will change your methods many times before the end so be flexible, respectful, open-minded.
  10. Enjoy it. No-one does anything well when they have to.

Good luck.

 

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