Stock market investing for beginners can be exciting — or terrifying. After all, you want your money to grow so you can reach your financial goals. But investing in stocks can be a tricky thing, especially if you follow daily investment news or have friends telling you about investing in penny stocks.
Manage your money more effectively by avoiding these common mistakes that rookie investors make:
1. Investing Without a Plan
Before you dive into investing, come up with a plan for why you’re investing. Sure, everyone wants to make more money — but how much do you need to reach your personal goals? If you would be happy saving for a $15,000 car, your investments might look different than if you wanted to save $1 million for retirement.
2. Buying Recently Hot Stocks
It’s tempting to buy into hot performers in the market, but this is just one of many investment mistakes to avoid. “The best past performance might also mean the highest risk,” said Daniel Zajac, certified financial planner and owner of Finance and Flip Flops. “If you buy at the wrong time, you may be exposing yourself to more risk than you are comfortable with.”
Instead of chasing hot stocks, do your own research on how to invest your money.
3. Buying Only One Stock
The key to investing is diversification. By diversifying your investments, you can better navigate the highs and lows of the market. On this, Zajac warned investors of the perils of investing in just one stock. “The key [to] any sound investment strategy is diversification,” he said. “Picking one stock can be the opposite of diversification. You are literally putting all of your eggs in one basket.”
4. Not Knowing What You’re Investing In
The legendary investor Warren Buffett is well-known for his aversion to investing in companies he doesn’t understand, most notably tech stocks. Although this personal policy meant Buffett missed out on Microsoft when it was just starting out, it also meant he avoided countless companies that went bankrupt.
“Investing in something you cannot explain to someone else results in an investing blind spot,” said David Auten of Debt Free Guys.
5. Buying Stocks on a Recommendation
When it comes to stocks, people are never short of recommendations. It could be your rich cousin, your brother-in-law or your rich next-door neighbor, but unless you do the research yourself, you won’t know if it’s right for you. “Before you jump in, ask yourself if you really want to invest based on the whims of a friend,” Zajac said.
6. Checking Investments Daily
As tempting as it might be, checking your investments every day is really stock investing for dummies. If you’re a long-term investor, there’s no advantage to keeping an eye on every little movement in your portfolio, as Warren Buffett said in an interview with CNBC.
“It’s dumb to check your stocks every single day,” said Jim Wang of WalletHacks.com. “It’s good to keep an eye on your stocks, but if you look every single day, you get tempted to react, especially in volatile markets.”
“It’s best to have a plan, made when you were calm and levelheaded, and stick to it — reacting based on emotion is almost always a bad idea,” Wang said.
7. Buying Solely on Brand
Don’t let yourself be dazzled by a fund or company brand. Compare fund fees objectively and consider the brand’s past performance. For example, Fidelity lists over 300 of its own funds — plus over 10,000 total funds — in its FundsNetwork, but that doesn’t mean they’re all the right investment for you.
“Just because you buy a Vanguard fund doesn’t mean you’re good,” Zajac said. “Not all Vanguard funds are equal. Some are safer while others are riskier. Know the details of your investment. Otherwise, you may not have the right investment at all.”
8. Not Having an Emergency Fund
As excited as you might be to learn how to start investing in stocks, make sure you also have an emergency fund that’s separate from your investing money. According to the U.S. Securities and Exchange Commission, investors should have six months’ worth of income in an emergency fund and keep it in a FDIC-insured account such as a savings account or certificate of deposit. If you invest your emergency fund money in the stock market, a market crash could leave you in the dust when you need that cash most.
9. Over-Investing in Your Company’s Stock
Katie Brewer, CFP of Your Richest Life, warned against over-investing in your company’s stock. She said many people “get way too pumped up about having company stock.”
Sometimes, you might not have a choice when you have money invested in your company’s 401k plan or ESOP; however, that means you must be especially careful with investments outside your retirement accounts. When your future wages are tied up in the company, along with your financial capital, your present and future wealth can be jeopardized if you lose your job or the company stumbles.
10. Avoiding Limit Orders
David Stein of Money for the Rest of Us recommended putting in a limit order when buying a stock. A buy limit order sets the maximum price you are willing to pay for a stock.
Stein explained the peril of avoiding them: “Most first-time investors place market orders which are filled at the going ask prices. The problem with market orders is a temporary mismatch between the volume of buy and sell orders [which] can send the price soaring or plummeting, if only for a few seconds,” he said. “This could cause the beginning investor to have their order filled at a price much higher than they would have liked.”
11. Investing Without an Exit Strategy
If you don’t set up a predefined strategy for determining when to sell your investments, you risk putting yourself in a situation where emotion and short-term reasoning can cause you to make unwise decisions.
You can use a range of strategies — including setting a maximum loss or gain that causes you to sell, an amount of time you plan to hold the investment for, or even certain company fundamentals to check to help you decide whether to buy more, hold or sell.
12. Not Researching Funds in Your 401k
A company 401k plan is convenient, but not researching the options for where to invest is a poor choice. The 401k plan will have a default option, often a lifecycle fund, balanced fund or managed account — but that might not be the preferred option for you.
“If you have a company 401k plan, take some time to do your research,” said Kirk Chisholm of Innovative Advisory Group. “The internet is a wonderful place with a lot of resources to research the mutual funds in your 401k plan.”
13. Ignoring Fees
Make sure you know what you’re paying in fees before you invest. For example, the Financial Industry Regulatory Authority has a website where you can search over 18,000 mutual funds and exchange-traded funds.
A small difference can result in a drastic result over time. If you pay 1 percent per year in management fees on a $50,000 investment that earns 7 percent per year over a 30-year term, for example, that’s about $100,000 in fees. If the fee drops just 0.5 percent, you pay just over $50,000 in fees.
14. Confusing a Bull Market With Brains
Don’t make the mistake of thinking you’re a great investor just because you’re picking stocks during a bull market. Todd Tresidder, former hedge fund manager and owner of Financial Mentor, reminded investors that “a rising tide lifts all boats.” Just because you happened to invest during a roaring bull market — when stocks are on the rise — doesn’t mean you are a brilliant investor. Instead, Tresidder said to view investment results only over the entire market cycle.
15. Being Impatient
Many investors have the far-fetched expectation that an asset’s value will go up as soon as they buy a fund. Historically, the stock market has averaged about 10 percent annually, according to the SEC. That doesn’t mean that you’re going to make 10 percent every year, however; and if you sell after a bad year, you could miss out on big gains in the years to come.
16. Not Vetting Your Investment Advisor
Not all investment advisors are required to have specific qualifications, and they’re not all held to the same standards for giving you advice. Some brokers are only bound by the suitability standard, which the SEC defines as the following: “Your broker must have a reasonable basis for believing that the recommendation is suitable for you.”
Don’t settle. Look for an advisor who is a fiduciary — someone who is legally required to act in your best interests rather than selling you products that will line their pockets with commissions.
17. Trying to Time the Market
Market timing is one of the worst investment moves when investing in stocks for beginners. Most investors who think they can time the markets by buying at the bottom and selling at the top are typically disappointed. A sensible investment approach of dollar-cost averaging in safe financial assets can allow you to participate in a growing market and buy more shares at lower prices.
18. Taking on Too Much Risk
Rookie investors don’t account for risk tolerance when determining how to balance investments across multiple asset types. Your risk tolerance refers to how much risk you can afford and are willing to take with your investments. Part of your risk tolerance comes from your time horizon: If you need the money in two to three years, you shouldn’t take on as much risk as you would if you didn’t need the money for 40 years.
Risk tolerance also includes personality. If you can’t stomach the thought of 20 percent of your portfolio disappearing in a bad year, you need to factor that into how you choose your investments — even if you don’t need the money for a long time.
19. Taking on Too Little Risk
On the other hand, if you’re saving for retirement that won’t come for 20 or more years, you can take on more risk because you have plenty of time to rebound after a bad year. If you play it too conservatively, such as holding all your money in CDs, inflation could outpace your returns. Although you won’t lose money with CDs, the effects of inflation can eat away at your purchasing power.
20. Holding on to Losing Positions
Many rookie investors hold on to losing stocks and sell stocks that increased in value, hoping to recoup their losses when the losing stocks rebound and lock in their gains before the improving stocks fall. This fallacy is known as the disposition effect. Be aware of the strengths and weaknesses of the companies you’re investing in so that you make smart holding, buying and selling decisions.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.