Investing in the markets is not something that we are particular knowlegable about. That is why we are pleased to present today’s guest post from our friend Tony at A Young Investor. If you are interested in submitting a guest post, please see our guest posting guidelines.
We’ve all been through the “if only I had know this, I would have done better” mentality. Unfortunately, life has no rewind button. Through this post, I hope to highlight a few things that I only wish I had known when I started investing so that you can avoid similar pitfalls.
Stick To What You Know
My father, and infrequent gambler, would always come back from the casino with a couple of hundred dollars extra (but because he rarely gambles, he’s not on their black-list). Every time he’s in Vegas, the people at his table are always asking “how do you do it?”. The answer is simple; my father only plays 1 game: Blackjack. By repeating the same game over and over, he picked up on the tricks of the game. The big losers are those who jump from different game to different game. The lesson?
Stick to the products that you know. I have a list of 6 financial assets I’m interested in – outside of that 6, I don’t touch, even if I foresee a potentially profitable investment. By playing the same “game” over and over again, you’ll learn many of the unspoken tricks of the game. For example, silver’s large fluctuations and long periods of non-movement makes it an excellent candidate for use of contrarian indicators. Since I only use ETF’s, I’ve become very familiar with the product (especially 3X leveraged ones), and as such have discovered that ETFs over time can erode in value. Only by sticking to what you know can you truly understand and profit from the investment.
Know Your Pain Threshold
This reminds me of a story from Reminisces of a Stock Operator
A successful investor in 1929 says to his wife “take this $300,000 and sock it away forever. It will be our emergency fund, in case I lose all the rest of my money in this bear market. If I come to ask you for that money so I can put it into the stock market, you MUST say no.” 10 months later, the man loses everything, and in his hysterical state, begs his wife for the $300,000 so he can invest in the stock market again. After a ton of nagging, his wife gives in: the man puts all $300,000 into the market, loses it all, and goes broke.
The morale of this story is that you must know your pain threshold – what is the maximum amount of money that you’re willing to lose? Once your losses hit that threshold, close your entire losing position to stop the blood loss. Many investors make the mistake of letting their losses grow larger and larger to the point of no return – cut your losses so you can sleep better at night and start afresh.
Speaking of Cutting Losses…
You need a safety net. No, I’m not talking about a social safety net – what I’m saying is that you need SOMETHING that will minimize your losses and risk in the financial markets. This can be done by:
- Diversifying. This is probably the most commonly given advice on financial blogs “don’t put all your eggs in one basket, spread your risks among multiple bets, etc”. Instead of rehashing what has already been said, I’d like to give a piece of advice: the purpose of diversification is to find UNCORRELATED assets. Too many investors diversify, only to realize that all the assets fall and rise together, which defeats the purpose of diversification.
- This is the approach I prefer. I like to keep a percentage of my portfolio in cash, always. That way, should my account register a whooping loss, I still have the comfort that 20% of my portfolio remains perfectly intact. While this might reduce returns, but at least I sleep well at night knowing my risk is reduced.
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Tony invests in multiple financial assets, mainly in the stock, commodity, and currency markets. He enjoys sharing what he knows at A Young Investor.
I couldn’t agree more! Too many people will just follow the herd or invest in something because “they got a tip”. Education is key with investing (much like most of finance matters) and there is a lot of it out there, if you know where to look.
I love you’re view on knowing your pain threshold, as that can help you as an investor make a more rational decision in the face of losses. I actually suggest having a written investment plan as it can help immensely with making investment decisions.
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Stick with wha tyou know…I like that. And it really is sound advice when it comes to gambling or investing. Pick one thing and get damn good at it. Jumping around sounds like a good idea, but you never really get indepth knowledge!
TB at BlueCollarWorkman recently posted..Teachers on Strike: Should They Get Paid More?
The college investor had a great post on leveraged ETFs yesterday or the day before. I’m not an expert on them but he really broke down the math and helped you understand how leveraged ETFs aren’t really that great of a thing when the market is down (or swings as it has over the past few years).
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Keeping a portion of your portfolio in cash is a good idea, in my opinion. It creates a safety net against other investments going bad – though it doesn’t protect against inflation and devaluation of the dollar. If all else falls through, you will still have that cash to fall back on.
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Sticking to what you know is really important. You cut down on your risk just by doing that. Someone who knows nothing about options should not buy or sell options. You are just asking to lose money.
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In the Warren Buffet book I read he really stresses to only invest in business and industries that you know a lot about. I think it makes a lot of sense since you don’t want to be investing in something that you don’t understand the long term potential or and when would be a good time to sell.
As for keeping a portion of your portfolio in cash, I don’t think that’s advice that I would follow. There are certain investments that have always shown steady growth which would be a much better place for that money where it isn’t losing value to inflation.
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When I was reading your tips I kept thinking you’re talking about a social situation because your advice certainly applies to life in general too.
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Very good. There is one thing I knew when I started, and that was the regularity with which recessions come along and change the game for everyone. Once I figured that one thing out, my returns went through the roof. If only I had known that when I started investing…
Stick with what you know! I like it.
I am agree with tony’s tips “What is the maximum amount of money that you’re willing to lose? Most of the experienced traders and mentor suggest for this. “Stick To What You Know” is another good tip for new investors. As there are lots of investment options but trader should choose only those with them they are well familiar.
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This post makes perfect sense and although I cannot use any personal investment examples as I only read and take an interest without investing, I can relate it back to the days when I was a gambler, a bit like the writer’s father.
I made losses whilst learning the horse racing game and over the years did become an expert and stuck to my own formulas and became relatively successful.
I would go as far as to say I became obsessive and really learnt a lot over 2 or 3 years of following the horses. However, there was always the risk of certain inconsistencies and even prone to a little corruption in the game which totally messed up the formula on occasion.
Then one day I thought to myself, OK, I’ve become an expert in 3 years but all this time I was an even bigger expert on football or soccer, as you Americans call it. I’d been aware of the patterns, knew every player, and each team’s style of play in the domestic league, and it dawned on me that this is where my real expertise lies. All my life I had followed the game and it was such a waste of knowledge to not use it as a gambler.
I was hugely successful until I emigrated and placing a bet became such a hassle, I gave it up. Maybe not quite an investor’s story but the theory holds, why have a little knowledge in many things when you can focus on what you really know about?
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