Most investors start investing with little or no clue about what to do. That’s normal, because everyone has a learning curve. Unless you have some pretty savvy investors who are family or friends, your starting point will probably be close to zero.
In this post, I hope to cover 3 common investment mistakes that many inexperienced investors make. By recognizing what potential mistakes you can make, you can also avoid them.
Taking On High Volatility Markets
There are many types of markets in this world, each with their unique characteristics. The most important characteristic that defines a market is its level of volatility.
For those of you who are new to investing, volatility means the amount that a market will fluctuate. If a market fluctuates a lot, it is “highly volatile”. If a market doesn’t fluctuate a lot (moves very little, either up or down), then it is “non-volatile” or has “low-volatility”.
Volatility has obvious pros and cons. If you can correctly determine the market’s direction, then a volatile market will yield greater returns. This makes logical sense – you only make money when the market moves, and you’ll make more money if the market moves up/down even more. On the other hand, if you get on the WRONG side of the market, then your losses will also be much bigger. Thus, volatility is a double-edged sword.
Unfortunately, too many happy-go-lucky investors enter the markets with a “I just want to make money” kind of attitude. Thus, they choose to invest in the heavily volatile markets instead of the less volatile markets because they’re enticed by the potentially greater profits. As a result, they don’t consider the greater risks. In other words, they come in with the mentality of a gambler – “I live for excitement. And plus, I can’t lose money.”
When you just start investing, you should stick with the less volatile markets. As an amateur, you honestly have no clue what you’re doing. If you play less volatile markets, you will learn the necessary lessons at a cheaper cost.
There’s something else most people won’t tell you about volatile markets. On paper, “volatility” seems simple. If a non-volatile market moves 5%, a volatile market will move 10%. HOWEVER, volatile markets have another layer of complexity – timing. Volatile markets not only swing more but also move faster. Thus, volatile markets are more suitable for traders, not investors.
Learning to trade is a lot more difficult than learning to invest. In the markets, you either have one of two advantages. Either you need to have patience or you need to have speed. Patience is easier than speed, because speed entails the need to time the markets.
Timing the markets is tough, and doing so requires a lot of historical analysis and effort (I would know, because that’s my job.) It’s not something that new investors can do right away.
Taking On High Volatility Financial Products
Similar to volatile markets are volatile financial products. What is a financial product?
There are multiple ways to invest in the same market. Let’s assume that I want to put my money in stocks because I think that the bull market is not over. I can do this several ways:
- I can buy the stock outright.
- I can buy a sector ETF that matches an individual industry (e.g. high tech ETF, financial companies ETF).
- I can buy leveraged ETF’s (e.g. 3x).
- I can buy options.
Each of these three financial products are different in terms of volatility. Options tend to be the most volatile – a couple of months ago, Apple had a see-saw day in which it went up 5% then went down 5%. According to my estimates, both long and short options lost 90% of their value. 90 friggin’ percent!
Too many new investors use highly volatile financial products because they want quick money. Sorry, but these volatile financial products are like bombs waiting to explode if you don’t know how to handle them properly. Leave them for the experienced.
Everyday, we’re bombarded with ads that disguise the truth behind their products – cost centers. When you first start to invest, people will tell you that “oh, you need to buy so-and-so’s product”. In reality, you don’t need them. They’re nothing but unnecessary overhead.
As a result, too many investors go out there and subscribe to all the $100-a-month services and seminars teaching you how to “Make 10% in just one month!”
In all honesty, half of these services are crap – it’s like the guy who makes money online by teaching others how to make money online (hypocrites). As a new investor, you do not have the ability to differentiate between the good subscription services and the bad. Investing has been my career for 5 years, and only recently (within the past year) have I begun to subscribe to 2 services.
And even if you can differentiate between the services that are money makers and the subscriptions that are just frauds, so what? Let me give you an example. I know a guy who created his own financial research company (costs around $1,000 a year). He offers a buy/sell signal, which many people find to be insanely useful. On average, his model will generate a buy or a sell signal once every 7 months. For many people, his service is awesome. He makes something along the tune of 20% a year.
Did I buy his service? No, because it doesn’t fit my investment style. My investments typically only last 4 months, hence, our time frames do not match up. I cannot use his service properly.
My point is, some services may be the real deal but you still won’t be able to use them properly because they do not fit your style. And as a new investor, you don’t even know what your style is, much less find good services that will fit your style.
What It All Comes Down To
When all is said and done, I guarantee that you will lose money when you first invest. It’s all just a learning curve – losing money is normal. George Soros didn’t become THE George Soros overnight. That’s because you have no clue what you’re doing when you start investing! However, what you want to do is minimize the cost of your mistakes. Learn lessons the easy way (cheap lessons), not the hard way (massive painful losses).
Troy updates his site once a day at TradingSlugger.com. He enjoys sharing financial advice, market opinions, and political/economic ideas. In his spare time, he also enjoys playing country music (just for fun!).