There is a whole host of mistakes people make with their finances. Here are the 6 most common mistakes that will destroy your investment account.
Mistake #1: Panicking & Selling
Depending on the investment vehicle that you choose, you can certainly expect some volatile swings, and most likely against your favor. I actually wrote a series of trading articles that talked about trader psychology. Here is a picture from that series:
Along the lines, you can easily depict the emotional cycles correlated with market sentiment.
If you are trading or investing without extensive knowledge, experience and/or professional assistance, it may be easy for you to panic and sell your positions. I urge that you contain your emotions and learn to adhere to a proven strategy. If you do not have the gut for such discipline then I suggest that you have a professional analyst take control of your funds.
Market volatility is a part of the market cycle. Implementing proven strategy lowers the likelihood of emotional attachment, similar to having a proper risk strategy in place. I wrote about those two topics here as well. Learning how to capitalize on market volatility is how you can make money on the ups AND the downs.
Take Away: Proper risk management, with a proven strategy, can prevent the feeling of anxiety and fear.
Mistake #2: NOT knowing WHEN to sell
The exact opposite of Mistake #1 is becoming greedy or uneducated on when to sell your positions. Let’s take a look at a similar figure from above:
At the point of maximum risk, you are likely to feel a sense of joy, euphoria, optimism, and even greed. This is the point in which it would be MOST advantageous for you to sell your positions.
A similar suggestion to Mistake #1 would be – have a professional overlook your portfolio so that they can accurately sell your positions when in the profit without acting on greed. Adherence to a proven strategy is imperative to staying above water when markets turn against us, or ahead of the curve.
Take Away: Designated target points for taking profit can help mitigate the sense of greed. Any profit is better than no profit, and certainly better than the likely potential of becoming a loss.
Mistake #3: Overlooking Taxes
Overlooking taxes is a major mistake that most people make when investing. It is easy to become mesmerized by the idea of generating substantial profits. Even the losses are captivating to watch. We may see commission fees, management fees, and other similar fees because we encounter them daily, weekly, or monthly. We do not, however, anticipate our taxes; especially if you are being taxed on gains rather than deposits.
There are several ways to protect your investment and reduce taxes:
- Short Term vs. Long Term: Transitioning investments from a short term to a long term timeframe vehicle is the easiest solution that can be implemented for most investment vehicles. Short term capital gains experience on average 40%, while long term (12 months +) is on average around 20%.
- Try other Investment Vehicles: In real estate, an individual can take advantage of MANY tax benefits which reduce overall payments on capital gains, like 1031 Property Exchange. Most taxes can be deferred for a year as long as they are reinvested in a new property as well.
- Check State Exemptions: The state you are in probably has tax credits or benefits for investing in the community, in local startups, business, etc.
- Tax Sheltered Accounts: Lastly, keep your investment safe with basic IRA Roths and other similar accounts that allow your capital to grow without tax considerations.
Tax Harvesting is the most effective solution in addition to the few mentioned above. The only drawback of tax harvesting is that it is a tedious process which takes calculated measures to ensure that the execution is being conducted correctly. Luckily, our PlutusX Robo-Advisor, amongst many others in the marketplace, is taking advantage of sophisticated algorithms to automate the tax harvesting process, and ultimately, saving you thousands in fees.
Take Away: Investigate methods to reduce taxes on your capital gains. Take advantage of the methods listed above.
Mistake #4: Investing Too Much
There are two main scenarios when investing too much can be a problem:
Scenario #1: You invest more than you are willing to lose. Investing inheritance risk can result in total loss. Therefore, it is advantageous to have a strategy that mitigates risk and only risk money that you can afford to lose; in preparation for a possible worst-case scenario.
A quick example would be non-proportionally allocating funds to an investment that should otherwise be used for living expenses; or worse (most cases), taking a loan to invest. In this example, the money that you invested is underperforming and ultimately is wiped out by a market spike. Now the money that should have been used for bills, living expenses, or borrowed, is wasted. Your imagination can fill in the ending.
Lesson: Invest only what you can afford to lose.
Scenario #2: This scenario is nearly identical to the 1st one above. However, in this particular scenario, you inappropriately shift too much of your portfolio from risk-averse instruments to extremely risky. Fundamental news is released and, as a result, your portfolio spikes against you and the losing trade eats into your remaining portfolio, slowly depleting your retirement plan.
If you look at the figure below, you can see exactly what I am talking about. Take the “Aggressive Growth” chart for example. The allocation of funds to a more risk-inherent instrument can decimate a standing portfolio by paying for losses accrued by your precarious decisions. Alternatively, if you place too much of your money into a riskier vehicle, you can be left with little to nothing remaining in your retirement portfolio.
Take Away: Only Invest what you can afford to lose. Do not become a victim of FOMO and over-leverage yourself on a risky method of accruing addition capital. Be calculated in your movements towards investing.
Mistake #5: Not Investing Enough
This mistake is the polar opposite of the greed found in mistake #5. Here we let fear inhibit us from participating in an investment vehicle that could liberate us or fund our retirement. The compound effect is truly a beautiful thing. The thing about the compound effect is that it works better the sooner you start and with more money. Fear at times fully debilitates us from taking action, even when we logically know it is the best strategy for us.
This mistake is simply letting fear consume you from investing sooner or with more, in your budget. This is not an open invitation for you to invest recklessly with live savings into risky vehicles. Instead, this is to explain that the compound only works well when started early and with significant capital.
Here is a great compound tool for you to experiment with (http://www.math.com/students/calculators/source/compound.htm). I suggest that you use the S&P average for the past 90 years: 9.8%. You can reverse-engineer your desired retirement plan with this tool by modifying your initial deposit, years held, and monthly contributions (recommended).
Take Away: Do not become debilitated by fear. If you have the ability to take a calculated risk with your additional income, do not let the fear inhibit you from taking advantage of investing opportunities. The compound effect works amazingly; only when you make it work.
Mistake #6: Placing All Your Eggs in One Basket
I wrote an article dedicated specifically to this mistake. Diversity helps hedge against market volatility, by allocating funds in different instruments that respond and react independently of each other in moments of crisis and prosperity.
Diversity does NOT guarantee the prevention of a total loss, however, it is an important component for the longevity of your portfolio.
Take Away: Diversification is a great method for mitigating risk, although is not a guaranteed safeguard for incurring potential losses.
We are not financial advisors and none of this information should be misconstrued as financial advice. We strongly suggest that you consult your personal financial advisors. We suggest that you continue the research before coming to a decision even if this article is considered a portion of your research.
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