Having been investing in shares for 35 years, I’ve made more than my fair share of howlers. But I’ve learnt from my mistakes over the years. Today, I aim to be a rational, objective investor making sensible decisions about risk and portfolio allocation. Here are five investing blunders I’ve made over the years that rookie and newbie investors should aim to avoid.
Investing mistake 1) Having an overly concentrated portfolio
In order to reduce risk, most investors spread their money around. This is known as diversification: putting your eggs in many baskets. Investing wealth across many different stocks (and varied asset classes) reduces the risk of having spectacular meltdowns. This (blow-ups) has happened to me a couple of times. For example, in 2003, I had a hefty investment in one stock that fell by about three-quarters (-75%). Eventually, my loss on this investment exceeded £100k — much more than I was prepared to lose. Ouch.
2) Buying battered companies
Billionaire investing guru Warren Buffett once wrote, “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price”. In the past, I’ve invested in many bombed-out stocks, optimistically hoping they would double or triple in value. Alas, these ailing businesses often got sicker, sending their share prices even lower. Today, I aim to invest in great, market-leading firms with reasonably priced shares. It’s safer for me.
In my early years of investing, I used to buy and sell shares very frequently. Indeed, I rarely held onto my shareholdings for long before moving on. In short, I was impatient, flipping stocks for quick gains. But this over-trading greatly increased my dealing costs, eating into my net profits. At this point, I realised I was more like a gambler or trader than a true investor. For example, I once bought into one UK company at 25p a share. A few months later, I sold out for 40p for a 60% profit. Within four or five years, this stock had soared to 250p — a fabled 10-bagger. D’oh.
4) Ignoring dividends
Dividends are regular cash payments made by companies to their shareholders, usually quarterly or half-yearly. Dividends are not guaranteed and can be cut or cancelled at any time. Also, most UK-listed companies don’t pay dividends, though most FTSE 100 companies do. However, investors ignore dividends at their peril. This is because they account for up to half of the long-term returns from investing in UK shares. That’s why every portfolio I build these days includes plenty of passive income in the form of cash dividends. If I choose, I can reinvest this income by buying yet more shares.
Investing mistake 5) Using leverage unwisely
My final investing mistake is one that I would urge all newbies, rookies, and beginners to avoid. It is using leverage — borrowed money or financial derivatives — to boost gains. While leverage can dramatically magnify returns, it does exactly the same for losses. Thus, leverage is a double-edged sword hanging over one’s head. In the worst-case scenario, unwise leverage has wiped out my initial investment and left me owing more. For example, I once bought a block of shares using a 40% deposit and borrowing the other 60% on margin. When the share price crashed, I lost all my investment, plus I owed my broker another £40k. Whoops!
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Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services, such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool, we believe that considering a diverse range of insights makes us better investors.