Are you a good share investor? Four common mistakes that result in zero profits (or worse, losses)

Most share investors repeat the same mistakes. There are probably only four simple mistakes that nearly every novice investor I meet makes. The shame is that these mistakes are so easy to avoid.

When I meet a client that has invested in a direct share portfolio (either personally or in a SMSF), this is what I typically find 19 out of 20 times:

  • The investor’s overall returns are ordinary at best. Typically, the investors have not made any money (or even tracked and benchmarked their returns)
  • Their portfolio usually consists of approximately 20 stocks. They are all Australian businesses (i.e. listed on the ASX)
  • Only one or two stocks are in a profit position. The remaining 18 are either at break-even or loss positions; and
  • Whether the client has used a broker, share investing newsletter or nothing at all doesn’t seem to have any influence on the investment returns they have achieved.

These poor returns are caused by making four common mistakes.

Mistake # 1: The absence of a methodology

Most unsuccessful investors do not adopt and follow an investment methodology or strategy. Instead they tend to make very ad hoc investment decisions. It is this absence of strategy that leaves investment returns to mere chance or luck.

Could you imagine an AFL coach not preparing a game plan (although one would be forgiven for concluding that Collingwood do this regularly)? Thinking through a methodology or strategy allows you to consider how you will win at the investing game before you invest one cent. If you are not prepared to develop a strategy, my advice is to not waste your time investing. It would be like building a house without architectural plans. It is that important.

Mistake # 2: Belief that they can make quick profits

One of my favourite quotes is from Howard Schultz (the guy that built Starbucks): “Short term success does not create long term value for anyone.” It is very true. Stock market investors that chase short term profits almost always miss out on long term value.

In the stock market, for every winner, there has to be a loser (on the other end of the transaction) – just as there is a seller for every buyer. Who do you think the loser is going to be? The novice investor that enjoys share market investing as a “hobby”? Or the professional fund manager that has spent over 20 years studying the market 80 hours a week?

A far better approach is to invest for long term value. As Warren Buffett advises, “Only buy something that you’d be perfectly happy to hold if the market shut down for 10 years.” I believe this is a really good acid test for any investment asset class.

Mistake # 3: No patience

Share trading can be an expensive business. It creates fees (share brokerage) and tax consequences. Notwithstanding that, to be successful, you have to keep coming up with winning ideas. It’s a lot of work and has a very low success rate.

Whereas, if you invested $10,000 in CBA when it floated at $5.40 per share in 1991, your investment would be worth over $150,000 today not including any dividend income (and if dividends were reinvested your investment would be worth significantly more). To quote Buffett again, “the stock market has a very efficient way of transferring wealth from the impatient to the patient.”

Mistake # 4: Almost no diversification

Most of the investment portfolios that I review are invested almost entirely in financial and mining stocks with almost no technology exposure.

The ASX market inherently lacks diversification. The top 5 stocks make up over 25% of the ASX200 index – and half of the index’s value lies in only 13 stocks. Financial stocks make up 35%, materials 17% and technology a lonely 1.3%. This means that even if you do invest in a ASX200 index fund, you still haven’t achieved much in the way of diversification.

Take technology for an example. Some of the biggest tech companies in the world include Apple, Google, Microsoft, Facebook, Samsung, Oracle, Intel and so on. It is reasonable to assume these companies will make a significant contribution to the world economy over the next 10 to 30 years. And therefore, not having any exposure to them would be foolhardy from an investment perspective.

In short, it’s very difficult to achieve any meaningful diversification (to reduce unsystematic risk) with a portfolio of 20 ASX listed shares.

What is the simple solution to these four mistakes?

The antidote to these four mistakes is very simple and available to all smart investors.

Essentially you need to do three things:

  1. You need to adopt a proven, low risk methodology. I am a strong believer in the passive investment methodology as explained in this blog. There are various passive methodologies that offer added value compared to traditional indexing (like fundamental indexing) that should make up part of your portfolio. These different approaches should always be based entirely on rules-based investing.
  2. You need to invest in a manner that you would be comfortable doing so for the next 10 years. The problem with trying to guess or predict which sector, market or individual stock will outperform is that no one can do it consistently (as explained in this blog). Instead you should develop an astute asset allocation routed in academic and make minor strategic tilts from time to time. You need to avoid the temptation of trying to predict market returns – “market forecasters will fill your ear but will never fill your wallet” – yes, another Buffett quote; and
  3. You need to diversify markets and assets classes. This means that you should invest outside of Australia – particularly in the US market as it makes up over half of the world index and provides tech exposure as discussed above. You should also consider defensive assets such as bonds too.

Sick of playing the stock market?

If you have been unimpressed by the returns your portfolio has produced and would rather not have the stress and hassle associated with managing it (or your existing advisor isn’t doing a great job), then we would welcome the opportunity to have a chat. I’m convinced that our low-cost, low-risk approach to share market investing provides a far superior outcome in the long run[1].


[1] I remind you that we don’t take investment commissions or make any money from recommended investments. We are completely independent.