Four mistakes investors should avoid
1. Not doing your own research
'Always do your own research' has to be one of the most popular adages in the investment world, but it's amazing how often this advice goes out the window. At one magazine I worked at, we once received an angry letter from a reader complaining that we had included the incorrect stock ticker code in an article suggesting investment ideas. Now, naturally this was sloppy editing on our part, but what this oversight led to was more worrying.
The reader was cross because he'd gone straight out and bought the stock based solely on the advice in the article and the ticker code listed. Somehow, it was only after he'd bought it that he'd realised -- due to the wrong ticker code being quoted -- he'd purchased a different stock to the one tipped in the feature. Not only hadn't he done his own research into whether the share was a sound investment for his own portfolio, but, while he was buying it, he hadn't noticed that the code actually referred to a different stock.
Doing your own research might take a little longer but it is always worth the effort. Just because a friend down the pub or even, dare I say it, even a journalist in a national newspaper or website, suggests buying a share it does not mean that it will suit your own personal circumstances or risk appetite.
2. Falling in love with one ratio
Aren't ratios fun? Investors love playing with them and talking about them. Many financial writers I have worked with have also had their favourite ones too, whether it's the PEG (price-to-earnings to growth ratio) or the price-to-book value. Personally, I like the good old-fashioned price-to-earnings (P/E) ratio, but I'm well aware that it's not the only game in town. In my misspent youth, I spent a lot of time looking at biotech companies, for which P/Es were generally useless as a gauge because most of the companies in question had no earnings to speak of.
Don't fall in love with one ratio -- or indeed any batch of ratios -- and believe that it's the investment holy grail. A ratio is merely one among many tools that can help you come to an investment decision, and looking at it in isolation is no substitute for going through the company's accounts and researching its future prospects.
3. Trading too often
Buying and holding the same stocks for many months or even years rather than trading regularly might seem boring, but there is a simple reason why this can make good financial sense. Trading too frequently can mean that you rack up expensive fees that eat into your profits. Each time you make a share purchase you will have to pay commission, which could be £10 or £12, depending on your broker, followed by stamp duty of 0.5 per cent on trades worth over £1,000. Once you decide to sell your holding, you'll be paying another £10 or £12 in commission, plus there will also be the bid/offer spread to consider.
Of course, it can make sense to cut your losses if your shares are performing badly or equally to take your profits, but it's also worth ignoring short-term ruffles and taking the long-term view. Remember that Warren Buffett's approach to investing is often to hold companies, such as Coca Cola, for many years.
4. Following the crowd
When you're not sure which direction to go in, it can seem comforting to follow your peers and pile into the stocks that everybody else seems to be buying. Following the crowd is human nature but it's not always a good recipe for making money.
Remember the great dotcom boom days, when, at its height, the likes of Baltimore Technologies exchanged hands for £15 a share? At the time people laughed at Warren Buffett because he steered clear of tech companies (although he has since invested in IBM) and insisted on only investing in firms he understood. He had the last laugh when many tech and media stocks collapsed. Sometimes by taking a contrarian approach and repressing the instinct to copy everybody else, you can get ahead of the crowd and make more effective investment decisions.