“It is remarkable how much advantage people like us have got by trying to be consistently not stupid, instead of trying to be intelligent.”
– Charlie Munger
This famous quote from Warren Buffet’s friend, collaborator and one of the greatest investors of all time, Charlie Munger, tells us that avoiding mistakes is hugely important in wealth creation.
So, what are the common mistakes investors should avoid?
- Avoid investing in businesses you don’t understand
It is important that we invest in business that we understand. As consumers we use many branded products. We have our favourite brands of toothpaste, soap, shampoo, tea, coffee, biscuits, motorcycles, cars and so on. As consumers we understand these businesses. So, it is easy for us to know that brands like Colgate, HUL, Tata Consumer Products, Nescafe, Britannia, Bajaj Auto/Hero Motors, Maruti etc are good businesses and therefore, good stocks to buy. Warren Buffet did not buy technology stocks for a long period because he said he didn’t understand them.
So, don’t buy the stock of a company whose business you do not understand.
- Don’t put all eggs in one basket
It is conventional wisdom that putting all eggs in one basket is risky. If you drop the basket, you lose all eggs. When you put eggs in different baskets, you are diversifying risk. This diversification is important in investment, too. There are two types of diversifications that are important. First, spread your investment among different asset classes like stocks, bank deposits and similar fixed income assets, gold, cash, and real estate. Second, when you invest in stocks diversify your investment among various sectors like financials, IT, automobiles, capital goods, cement, FMCG, hotels, health care, pharmaceuticals etc.
- Don’t invest without financial goals
We invest for the realization of our goals in life. When our investment grows to an amount that is sufficient for the realization of that goal, the investment can be redeemed. For instance, if you have started investing to accumulate enough money to finance the higher education of your child, and your investment has grown to reach the required amount, it makes sense to redeem that investment and use the proceeds for realising that goal. Many investors commit the mistake of making investment decisions without any specific goals in mind. This creates confusion regarding when to sell.
- Control extreme emotions of greed and fear
Greed and fear are normal human emotions. But succumbing to these emotions in investment can lead to financial ruin. The market swings between fear and greed. It is important to keep greed and fear under control.
- Don’t move with the herd
Successful investors don’t move with the herd; in fact, they move against the herd. So, a better strategy than avoiding greed and fear would be what Warren Buffet famously said: “Be fearful when others are greedy; be greedy when others are fearful.” If your investment is in good quality stocks or good mutual funds, there is nothing to panic. Good stocks, good mutual fund schemes and well-managed Portfolio Management Services (PMSs) always bounce back after a crash.
- Avoid speculative trading
Many newcomers to the market start as investors, and then quickly move to speculative trading in pursuit of quick money. For the vast majority, this has turned out to be a big mistake. Studies have found that around 90 percent of F&O traders and 70 percent of intra-day traders lose money. So, it is important to avoid this costly mistake of speculative trading.
- Don’t chase unrealistic/guaranteed returns
Many Ponzi schemes promise very high returns; some offer guaranteed returns. It would be wise to avoid investments that offer very high and guaranteed returns. Some investments can turn out to be excellent investments which deliver multi-bagger returns. But in the stock market nobody can offer or guarantee high returns.
- Beware of social media posts, ‘finfluencers’ and fraudsters
This is the age of electronic media. People get many unsolicited calls, emails and social media posts from unregistered, unregulated tricksters promising very high returns. ‘Finfluencers’ promising to train people in speculative trading, enabling easy money making, are taking many newbies for a ride.
- Don’t borrow to invest
A cardinal principle of sound investment is that you should invest from your savings, not from borrowed money. Borrowing to invest can turn out be risky. There are plenty of instances of people going bankrupt by betting more than what they can afford.
10. Don’t try to time the market
It is extremely difficult, almost impossible, to time the market. Sharp market up moves, and down moves happen at the most unexpected times. So don’t try to time the market; instead, spend time in the market; that is, invest systematically for a long period of time.
