In investing, knowing how to not lose money is as important as knowing how to rake in returns.
Ritholtz Wealth Management’s Ben Carlson makes this clear in his recently published book “A Wealth of Common Sense“, also the name of his blog, which aims to provide simple, yet solid guidelines that work for any investment plan in the long run, devoid of any quick fixes or bells and whistles.
“The very best investors know how to stay out of their own way,” he writes. “This doesn’t mean that every decision you make will be the correct one at the right time. That’s an impossible goal. But make enough good decisions over time and reduce enough unforced errors and your probability for success is much higher than the alternative.”
Simple enough, right? Not really. As Carlson notes, data show that investors repeatedly make the same basic mistakes, like buying right after an asset’s price has run up, and selling as it’s crashing.
These are seven big things the pros know to avoid that the rookies don’t:
- Wanting to get rich quickly. Rookies think the stock market is like a casino. Anyone who got very successful very quickly in the market was probably lucky. Anyone who advertises how they got rich quickly should be ignored. And if their tips really do work that well, they’d probably be keeping them to themselves.
- Investing without a written plan. That’s a guarantee for failure, because such investors end up relying on their instincts in tight situations, and successful investing is counterintuitive.
- Not thinking for yourself. Sometimes the crowd is right. But every major financial bubble has been caused by a massive group of people thinking the asset’s value would continue to appreciate. And when the crowd is wrong, it can be disastrous.
- Focusing on the short-term. It’s easy to use geo-political events and the news cycle to attach too much importance to what is happening right now. These events are usually out of individual investors’ control. And, it’s often too soon, and impossible, to know exactly why markets move a certain way on a daily basis. So, don’t be bothered by every tick.
- Focusing on things that are out of your control. These include the aforementioned news events. What you can control, like sensible asset allocation, keeping costs low, and defining your tolerance for risk, are the things successful investors are bothered by.
- Taking the markets personally. This starts by blaming others for one’s own mistakes instead of looking into strategy mistakes, and accepting that not every trade is a winner. The problem is not with the markets, it’s with individuals, and the successful investor learns how money is lost, since that’s inevitable.
- Being in denial about one’s limitations. “Overconfidence is one of the biggest destroyers of wealth on the planet,” Carlson writes. That includes overconfidence in one’s own forecasts. And this is why diversification is important, because it’s an admission that anything could go wrong anywhere, which provides room for error, or, as Benjamin Graham called it, a margin of safety.
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