A behaviourial reminder

Making your money work

By JOYCE CHUAH

Pitfalls to avoid when making an investment.

LET’S face it. No investment decision will be right all the time. It is through wrong investment decisions that we make the right decisions eventually. So it is important to discuss some of the reasons why investments fail.

Often, emotional response is the culprit behind bad investment decisions. One of the most common emotional responses is the herd mentality. It is easy to follow the herd. We prefer to chase after the most talked about stocks, or follow the latest investment “guru”. When trouble looms, the herd mentality often kicks in. When everyone else is nervous about the market, so are we. We forget about our investment strategies, preferring to run instead of holding on for long-term returns.

Following the herd will mean you need to change course each time, and this will take you longer to reach your goal.

So what can you do? Draw up your own investment philosophy. Investment philosophies are like promises you want to make to yourself and investment behaviours you wish to inculcate.

Here are 10 of the most common investment mistakes:

1. Investing at the peak of an economic cycle.

It is always easier to invest when everything looks rosy, when confidence is high and your friends tell you they are making money. Worse of all, when you join in the fray, the bubble bursts. So what do you do? You decide to stay out and let the investment value ride back up to recoup your capital. The problem is if you invested at the peak of the cycle, it may be another five to eight years’ time before you see it peak again.

2. Taking advice from an “accurate source.”

Most investment losses can be attributed to following third party “hot tips” and advice without doing homework. Some even claim they had insider information or that the news came from the horse’s mouth. If it sounds too good to be true, it usually isn’t true!

3. Afraid to value cost when returns are negative.

Value cost averaging is one strategy to average your cost and lower your investment’s break-even point. For this strategy to work, you must have enough funds to value cost, give your investment vehicle enough time to come back up again, and most importantly, your investment vehicle must have the capability to rise in value eventually.

This strategy is useful in investments which are diversified in nature, like managed funds, as they will not lose all of their value even in the worst market scenario. If you are investing in stocks with good value prospects, be prepared to value average too.


4. Unaware of the status of investments.

Many investors know exactly when their fixed deposits are maturing but have no idea when it comes to their more volatile and growth-oriented investments. Investments must be tracked more regularly than fixed income vehicles and knowing their value and how they have performed over time helps you to seize opportunities to sell or accumulate more for value averaging purposes. However, do not monitor your investments too frequently as it can cause you to panic and sell your winners too soon.

5. Not having a required rate of return.

Investors often do not set a target of return for their investments. Even if they do, they shift their targets as greed sets in, especially in a bullish market. This can be dangerous as a sudden event in the market can wipe out profits. What one needs to do in a bullish market is to sell the profits when the desired rate of return is met and continue to monitor the capital for further market upsides. However, if you are a new or conservative investor, it is be better to realise both your profits and capital once your “triple R” (Required Rate of Return) is met.

6. Not rebalancing portfolios.

During the 2003 Iraq war, an investor announced that his investment planner had told him to switch his equity portfolios to bonds as the war could be a potential danger to his exposure to equities. I met the same investor again at the end of 2003. He said he had lost about 15% in his bond investments in the 2003 bond market crash.

Unfortunately for him, rebalancing portfolios was done as a single isolated event. He had forgotten that rebalancing must be done consistently in different cycles under which the specific investments are exposed to. My advice is to rebalance at the most twice a year, unless a sudden unexpected event happens.


7. Focus on popular investments.

Investors feel better when they invest in investments which have been highly publicised, advertised or the ones everyone else is getting into. Some of these are good investments and are worth looking into but do your homework. Check if they suit your investment goals and time-frame.


8. Focusing on “guaranteed” investments.

Having your capital guaranteed is fine but you need to realise what they are “guaranteeing” – capital or returns? This promise of “capital guarantee” usually deceives us in our understanding of balancing the cost of other investment opportunities during the holding period against the security of not losing our capital at the end of the tenure. Putting money into a guaranteed fund is only suitable if you do not need the funds within the holding period and you have a diversified investment portfolio.

9. Not having an investment philosophy.

An investment philosophy is just a simple statement of your investment style, what allocations you have determined for your investments, which investments you want to include in your portfolio and those you do not want to be included at all. The statement also outlines your purpose in investing, strategies to be undertaken should your investments go wrong, and the time-frame you have set aside for each investment. Your philosophy can be adjusted to suit the current scenario. Having an investment philosophy prevents us from being overly-greedy or overly fearful.


10. Transactional type of investments.

For most of us, the only purpose we invest is to make money. After that, what next? We need to have a purpose for our investments. Why did we invest in stocks, unit trusts and property? To make money? Yes, but what’s the purpose behind that purpose? Your investments must be purpose-driven, for example, to clear debts, fund a comfortable retirement, or to send your kids to college. Remember, greed is not a purpose.



Joyce Chuah is a Financial Intelligence trainer and Certified Financial Planner who has been in the industry for 10 years.