Investing in the Stock Market is often seen as a complex task of understanding multiple principles and laws of economics and finance to understand just the basics of it. It is not so difficult as one might have you think.
As the number of people who are entering the market to invest keeps increasing, and as people are looking towards bolder and better ways of wealth creation, it is important to be aware of some of the more common investment mistakes to avoid so as to not undo all the previous hard work when it comes to investing.
Failing to Diversify
Putting all your money into one investment, or a small group of similar investments can expose you to significant risks. Investments can be impacted by a lot of factors outside one’s control such as geopolitical and environmental factors and as such, it is wiser to spread out the investment of funds not just across different assets, but different Asset Classes (Stocks, Bonds, ETFs) as well.
This strategy ensures that even if one of the asset classes is underperforming, the other investments will help balance out the temporary setback. Optimal diversification creates wealth in the long term while providing a better safeguard against market turbulences and volatility.
Diversification is good for protecting and mitigating yourself against the risk of having all eggs in one basket, however, too much of anything is bad and diversification is no exception. Over-diversification of your investments can lead to your portfolios becoming too large to be managed easily along with overlapping of investments in the same sector.
It is important to find the right balance as lack of diversification can kill your wealth, while over-diversification can dilute your returns. It is a common investment mistake and as such, if needed, professional help from registered people or entities could be availed for a better approach.
Timing the Market
Market timing is the act of moving investment funds in or out of a Financial Market or an asset class based on predictive methods by Investors trying to gauge whether the market will move up or down in an attempt to make a profit.
Due to the dynamic and ever-changing landscape of the Investment Market coupled with its unpredictability and reliance on factors outside one’s control, it would be naive to assume one could find the perfect window of opportunity for their ideal investment every time. Market timing is an extremely difficult task to sustain, even for industry professionals, and as such it is not recommended for the average Investor at all due to the high levels of risk and volatility attached to the practice.
Focusing on long-term wealth creation and tailoring your investments to achieve that objective is much more sustainable and reliant compared to timing the market where mistakes can prove to be financially significant.
Lack of a Plan
It is important to develop a plan of objectives and goals to achieve, along with the risk tolerance permitted before investing. A plan is crucial and serves as the blueprint and underlying framework for the strategy and approach needed for an investment goal or objective. Lack of a plan is so detrimental in fact, that it is best to not invest at all rather than invest without a plan.
Beginner Investors might make the mistake of not having a clear objective on whether an investment will be for the short-term (a few months to 2 years), mid-term (2 to 5 years), or long-term (10 to 20 years) which can result in the yields not matching the desired results. It is important to at least gather a basic level of knowledge before investing your hard-earned money and committing yourself to a financial investment.
Goals and objectives will vary for each person such as saving up for a child’s education, accumulating emergency funds, setting up a retirement plan, etc. Clarity in your planning and goals will ensure that your investment approaches are aligned with your investment objectives.
Acting on Influencer Tips
The popularity of social media has given birth to social media influencers who have a large audience consuming their content. When it comes to the financial sphere of the online world, there is unfortunately a lot of misinformation and manipulative schemes out there ready to entice Investors with too-good-to-be-true offers.
Financial influencers or, Finfluencers, are individuals who encourage or influence people or entities with their financial investment decisions by disseminating content through social media platforms like YouTube, Instagram or X (formerly Twitter).
While get-rich-quick schemes can tempt anyone, it is important to remember to always invest after conducting a thorough analysis and the required due diligence. Investments that promise a fortune are usually a lure that relies on hype and speculation to drive up the price until it crashes. The real profit makers are the ones who have had vested interests long before the public comes to know about the ‘amazing investment’.
Recently, in what was the first major case of a crackdown on a financial influencer, Regulatory Body SEBI barred three entities from the market for allegedly selling trading recommendations without any registration under the guise of market-related educational programs and asked them to return Rs. 17.2 crore taken as fees from their investors over a period of two years.
As the market is a dynamic environment with constantly changing factors, anyone promising assured returns on investment needs to be treated with scepticism. If an investment sounds too good to be true and you’re unsure of how to go about doing your research, please consult a Registered Investment Advisor (RIA licensed through SEBI) or seek an Investment Financial Firm that can provide you with guidance using their research tools and expertise.
Ignoring Investment Risks
Every investment carries an inherent level of risk attached to it regardless of the asset class. Investing in an asset class without a proper risk management process in place can expose you to significant and unnecessary financial loss.
Risk management techniques such as asset allocation, evaluating the risk tolerance, and diversifying and re-balancing your portfolio are some methods that can be used to alleviate risk.
It is important to know your own risk tolerance threshold to decide on the asset classes to invest. If the threshold is on the lower side and you are a risk-averse person, it is better to invest in Fixed-Income Assets (Bonds, Time Deposits) that provide assured returns over a period of time. On the other hand, if the threshold for risk is on the higher side, Market-Linked Products (Equity, Mutual Funds, NPS) can offer much higher returns.
Easily Influenced Due to Herd Mentality
Herd Mentality is a concept whereby individuals follow, adopt, and are influenced by the decisions taken by a larger group. It arises from the basic human nature of not wanting to be the odd one out of a pack. Decisions taken on this principle may lack any personal, rational or critical thought and can often prove to be dangerous in situations where research and analysis might be needed, such as in the financial world.
One of the main components of herd mentality in the Financial Markets is the buying and selling of assets at the wrong time. When the herd rushes to invest in an asset based on hype and speculative data (often lacking adequate research), it can lead to an overvalued and inflated price which increases the likelihood of a market correction or even a crash. On the other hand, when everyone is selling off their assets and investments, it induces panic selling leading to further decline of the prices.
To avoid such traps, you must develop and conduct your own investment plans which lay out your financial objectives and goals through thorough research and analysis of market trends. It is important to make a well-informed decision and to learn from others’ mistakes to not repeat them.
Lack of a Proper Budget
Savings and Investments are linked to each other by virtue of savings providing the necessary capital to funnel into the investment streams and opportunities for the purpose of wealth creation. It is important however to know how much to save and how much to invest in case of an emergency or a safety net being required.
The general rule of thumb is to follow the 50-30-20 rule. This plan allocates 50% of your income to necessities (bills, rent, food), 30% on entertainment desires (Dining out, going to the movies), and the remaining 20% on savings. It is not a hard-proven principle but just a simple guideline for building a budget.
By having a safety net in the form of savings, market downturns and uncertain periods can be better mitigated by not forcing you to compromise on the investment through liquidation.
Negligence in Monitoring the Investments
A lot of Investors neglect their investments once the initial phase of ‘investing’ is done. Investments are not a one-and-done activity that shall generate passive income. Failure to monitor the investments or the performance of the portfolio can lead to missed opportunities in the market or even significant losses.
Investments should be regularly monitored to make sure that they are always aligned with your investment objectives and that any adjustments needed for realignment can be done in a timely manner. Regular meetings should be scheduled with your financial advisor or consultant regarding the changes and adjustments needed to the portfolio, if any, to reduce risk.
Historical Returns Do Not Assure Future Gains
A common mistake made by many Investors is the reliance on historical data as a metric to ascertain the future performance of a stock. Historical performance could serve as an indicator of risk, but not as the sole basis for the decision to invest in a particular asset.
Long-term Investors will find that predicting the market is neither practical nor viable and hence historical figures and performance should not be relied upon for analysis. The host of factors affecting a market ranging from the environment, market conditions, and investor sentiment among other things can cause fluctuations that cannot be fully factored in solely through the analysis of historical performance. It is imperative for an Investor to understand and evaluate an investment based on its potential for growth and risk factors.
Overlooking the Importance of Professional Help
In the age of the internet where information is available just a few clicks away, it can be easy to overlook the importance of Financial Professionals and firms offering Consultation Services. The level of expertise and experience available at their disposal is invaluable when channelled in the form of guidance and wealth creation for an Investor.
They can help an Investor develop a financial plan to achieve their goals while handling asset allocation and diversification to mitigate risks and reduce volatility, among a whole host of other tasks. This does not mean relinquishing all control as it is still your money and your investment. As such, regular monitoring and follow-ups are required to maintain transparency and clarity on the approach.
Investing can seem to be daunting at first due to the number of factors that seem to be out of your control, however, avoiding the investment mistakes highlighted here can help you fulfill your financial plans and objectives for the purposes of wealth creation and wealth maximisation. Sometimes the best way to take inputs and acquire information is from reading investment related books written by professional and successful investors.
Disclaimer: Any person or body providing Investment Advisory Services, Research Analyst Services, Portfolio Management Services, and other services in the capital market must be registered with SEBI.
FAQs Regarding Investments
Q: Is Investing Risky?
Investing has risks, however, it is also a skill and just like any other skill it can be learnt on how to plan and manage for the maximum returns
Q: What is ETF?
ETF or Exchange Traded Funds are passive funds based on some particular index such as Sensex or Nifty 50. They are similar to index funds except that they are listed on an Exchange, allowing you to do a transaction at any time of the day instead of waiting for the end of the day.
Q: Where to Find the Financial Information and Reports of a Company?
The firm information is freely accessible on stock exchanges (NSE, BSE), the corporate website under investor relations or the about us portion of the website.
Q: Should I Invest in Stocks When the Market is at its High Point?
If an investor finds several attractive stocks and is ready to invest, he or she should avoid making a large lump sum investment. It is better to average out the stocks to lessen the likelihood of purchasing them at a high price.
Q: What Stocks to Avoid?
Avoid investing in low-liquidity Stocks and Penny Stocks as they are harder to trade than their counterparts, along with a lack of data on public platform making it harder to take informed decisions.
Q: How Many Stocks to Buy for my Portfolio?
It depends on the size of the investment. Usually, investors have 8-10 stocks in a portfolio.
Q: Are Mutual Funds Good Investments?
Mutual funds offer diversification and convenience at a low cost. However, whether you should invest in them is dependent on your own circumstances.