Generating wealth from the stock market really isn't that hard. Having said that, plenty of investors have bad investing habits that prevent them from making money in the market. Here's a look at five such wealth-destroying habits.
Buying at the top
Research shows that retail investors tend to consistently invest at the worst possible time. All too often, they invest near the top of the market because that's when sentiment towards stocks is at its highest. This is a classic behavioural finance mistake. One strategy that can help you avoid making this mistake is to set up a regular investment plan whereby you drip-feed money into the markets all through the cycle. By doing this, your purchase prices will average out over time.
Another bad habit that many private investors exhibit is panicking as soon as an investment falls in value and is showing a loss. One of the most important things to understand about investing is that share prices can experience wild swings up and down, often for very little reason. To be a successful investor, you have to be comfortable with this volatility. Even high-quality FTSE 100 companies can move 5% to 10% in the space of just a few trading sessions. Yet just because an investment is down 10% doesn't mean it's time to sell. Most of the time, the best approach is to ignore the short-term price movements and focus on the long-term.
Not buying low
In the same way that retail investors tend to buy at the top of the market, they also tend to miss out on the fantastic opportunities that are available when the market is plummeting. Buying stocks during periods of market turbulence takes courage. However, if you're willing to take the risk and go against the herd, the rewards can be life-changing. For example, had you had the courage to dive into the FTSE 100 in the chaos of early 2016 when the index was at 5,500 points, you would now be sitting on a gain of over 40% when you include dividends. Not a bad return in just 2.5 years.
Making too many trades can also have a negative impact on your wealth. This is simply due to the fact that commissions and stamp duty add up if you're constantly tinkering with your portfolio. Remember, an investment portfolio is like a bar of soap - the more you touch it, the smaller it gets. Often, the best approach is to simply leave your portfolio alone.
Lastly, many investors fail to diversify properly and this ends up hurting their investment performance. Spreading your capital out over many different investments is crucial when it comes to generating wealth from the stock market.
Diversification has several benefits. First, it reduces your stock-specific risk. If you only own two stocks and one crashes 50%, your portfolio will fall 25%. However, if you own 20 stocks and one crashes 50%, your portfolio will only fall 2.5%. Second, diversifying internationally into niche areas can help boost your performance. For example, those who have bought US technology stocks in recent years have most likely boosted their wealth considerably as this sector has soared.
Investing doesn't need to be complicated. However, it's important to get the basics right. Avoid the bad habits above and you'll give yourself a good shot at generating long-term wealth through the stock market.
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