Investing in the stock market isn’t child’s play. There are emotional pitfalls that can hit you hard and lead you to make investment mistakes. Even with my experience, I've already fallen into one of these traps. We're only human! Here are five of these traps and how to avoid falling into them.
1. The illusion of knowledge
I remember a client with some experience on the stock exchange who asked me to buy him a stock because the price was at its lowest, and the stock had been going up and down in the same price range. He said to me, “It’s at its lowest. I’ve been watching it for 2 years and depending on its behaviour, I will certainly make money.” His reflection surprised me so much that I said to him, “Well, let's see, if it were this easy investing in the stock market, everyone would make money!”
And then there was another client for whom my recommendations helped earn a 40% return in one year. That was in 1999. It was an easy year to get good returns.
This client's good returns suddenly made him feel invincible. He was convinced that he would succeed infinitely. He began to make questionable stock choices (for me, but not for him) and finally, his run ended abruptly with the severe correction of the year 2000.
We reach this point of illusion of knowledge when the markets are doing well, when we’ve had some success, and when we’ve observed the market for a long time.
I could talk about it at length, but the important point to remember is that we will never be familiar enough. It must be remembered that the stock market is like learning the rules French; there are always exceptions! The stock market will always behave unpredictably… at an unexpected time.
2. Unfounded hope
And no, hope is not some kind of investment! When you invest in the stock market, of course, you invest with hope, otherwise, you wouldn't do anything. I’m talking here about unrealistic hope. You have a stock that has fallen sharply and doesn’t rebound after several years, and that the only reason you keep it is the hope that it will one day go back, the hope that it will be a future Apple…for example. If the stock has fallen sharply, it’s because there is a reason.
Not to mention the rumours…I have often heard this: “My brother-in-law has a friend and his friend's cousin knows the President of a very promising company. Even Barack Obama invested in it.” And all of a sudden, hope just hits you over the head, and this time it's the right one! Hmmmmm…..it's just smoke and mirrors.
3. Your brother-in-law's advice
We all dream of having our brother-in-law’s success. He's lucky. Everything he touches turns to gold. At least, that’s what he tells you…but no one will brag about losing with an investment, and neither will your brother-in-law. The grass is always greener on the other side, don't forget.
The danger with your brother-in-law's theory is that we’d like his success to become ours and that could compel us to make investment decisions that are too risky for our ability.
4. Falling in love with an investment
You know, a stock is not a person, so, please don't fall in love. Let me tell you a story about I client I had who held Bombardier shares for over 25 years.
What you need to know with Bombardier is that in the 1990s, anyone who invested in Bombardier was pretty much certain to make money. Things were going well. Many people became temporary millionaires with Bombardier.
But this beautiful story ended in 2001. From its peak of $26 at that time, it just plummeted. I had been recommending that my client sell her Bombardier shares for some time because it didn’t fit with her investor profile. She had always hoped it would return to the way it was. After trying to convince her several times, she ended up selling them. The next day, she called me back and asked me to buy them back, saying, “I just can’t divorce Bombardier.”
It is said that love makes you blind, and falling in love with a stock prevents us from seeing if our stock has a cold…or an incurable disease. There are things to know about a business before you invest, so take the time to find out more.
5. The fear of regret
You bought a stock for the purpose of selling it once it has grown a bit. That day is coming, and you're hesitating. If you sell it, it may continue to rise and you might miss out on an even bigger payout.
What if you kept the stock? Will you fall in love with it, or will you end up living in hope for it to rise again after it has fallen?
Selling your shares is the hardest thing to do. You have to accept that you may miss a gain, but you’ll be happy if one day this stock decreases and you no longer own it.
In investing, the most important thing is not the products, but the strategy.
You have to have an investment strategy and you have to stick to that strategy, no matter how the markets behave. For example, if your strategy is as follows:
- 60% of your assets invested in equities
- 40% of your assets invested in fixed income (the secure part of your portfolio)
The stock market is doing well and you'd like to take further advantage of it. You decide to increase your equity investment to 75% for one year. If there’s a stock market correction in 12 months after your change of strategy, you’ll end up bitterly regretting your decision. You must constantly diversify and rebalance your portfolio.
No matter what strategy you choose, you need to be comfortable with it and stick to it. There’s no magic rule on the stock market.
Sticking to your strategy will save you from falling into the traps I’ve just described and you’ll win in the long run. If you feel ready to invest rationally, I encourage you to select your online broker using a comparator. If you’d prefer to leave your investments in the hands of a professional without breaking the bank, consult a robo-advisor comparison tool.
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