7 Mistakes That Kill The Small Investor’s Odds Of Being Successful In The Stock Market

One of the most least understood truths of investing is this:

Success in the game of investing depends more on not making mistakes than it does on picking big winners. Period. In fact, Warren Buffett’s two rules of investing are: #1) Never lose money and #2) Never forget rule #1.

It’s all too easy for small investors to make bad choices: The securities industry creates a “latest and greatest” way to make a quick buck almost every day. But almost all of these ideas are structured to benefit people other than the small investor. Small investors wind up getting relegated to their usual status… as victims.

The way most investors miss out on success is not because they are not smart enough to succeed in the markets, rather because there are fundamental flaws in the ways that they approach investing. With that in mind, let’s look at seven of the most common mistakes the small investor makes:

1. They don’t have a plan. One of the most common and deadly mistakes that small investors make is not having a plan for investing. While it is impossible to predict markets — being prepared and able to take advantage of market conditions, separates the pro from the amateur. If the market tanks like it did in 2008-2009, does one sell or buy? This is a question that an investor should be prepared to answer long before the situation occurs . With due diligence and careful consideration, it’s not hard to formulate an intelligent plan for how, and in what conditions, you will make your investments. When people deviate from a rational plan is when many of the most costly errors in investing are made. I can tell you from personal experience, the key to beating the market is having an investment philosophy that’s based on sound logic, not what’s popular on Wall Street at the moment.

2. They invest in something they don’t understand. One of the world’s most successful investors, Warren Buffett, cautions against investing in businesses you don’t understand. This means that you should not be buying stock in companies if you don’t understand the business models of the underlying companies. The best way to avoid this is to invest slowly after you have researched a company thoroughly. What does the company do? What is the company’s earning and balance sheet history? How richly is the company’s stock valued? Who are the company’s competitors and does the company have a durable competitive advantage? Is the company run by honest, forthright executives? These are just some of the questions that need to be answered by the small investor to ensure they understand the business. A good place to start getting information? Study the 10-K and 10-Q annual reports required of every public company. But don’t stop there, research everything you can about the company. Remember to do your homework before you invest your hard-earned cash.

3. They let their emotions betray them into doing the wrong thing at the right time. Wall Street can be a scary place when the markets are gyrating wildly. This is not new. Three centuries ago, when scientist Isaac Newton lost a fortune in the “South Seas” stock collapse, he complained: “I can calculate the movement of the stars, but not the madness of men.” A more recent market meltdown was the 2008-2009 collapse. The Dow lost half its value in less than a year. Millions of investors saw billions of dollars in assets disappear. Letting their emotions rule their day, many investors pulled out and sold at the worst possible time—the bottom. Yet six years from that 2009 market bottom, the Dow is up over 10,000 points to a new record high. Keeping your emotions in check, will allow you to take advantage of the market’s follies, not be a participant in them. As Buffett always says, “be fearful when others are greedy and greedy when others are fearful.”

4. They buy momentum stocks. Just as a rising tide lifts all ships, a surge in the stock market will boost most stocks. Many small investors select stocks simply based on how they’ve performed recently. The feeling that “I’m missing out on a great stock” has probably led to more bad investment decisions than any other single factor. If a particular stock has done extremely well for several years, we know one thing with certainty: The time to invest in that stock was probably three or four years ago. As they say at the end of every cycle, the smart money is moving out of a stock and the dumb money is pouring in. It’s difficult to ignore a stock that appears to be taking a ride to the moon, but it’s best to stick with your investment plan and wait for the right opportunities. Although opportunities may not come every day, they do come and the key is to be ready for them.

5. They have a short time horizon. Perhaps one of the biggest killers of high investment returns is having a short time horizon. Patterns, predictions and stock-market gyrations all have one thing in common – they are a short-term distraction from an investor’s long-term goals. Stock market returns may deviate wildly over a shorter time frame, but over the long term, historical returns for large cap stocks can average 10 to 11%. In investing, one principle always rings true: Time is the single most important element of investing. And for that reason, mismanaging time can have the most devastating effect on your money. Before jumping on the bandwagon of a short-term market swing, weigh the decision carefully with what it could really cost you in the long run. It’s important to remember to keep your eye on long-term investing goals. Let the day-to-day gyrations take place while you focus on creating a consistent return over the long haul.

6. They take their investment cues from financial media. You would think that the financial media, even the reputable ones, have your best interest in mind when they publicize their stock recommendations. You would be excused for believing that they actually do a lot of research before they publish their analysis. If you do, you are giving them way too much credit. Their chief concern is getting eyeballs on the story so they can sell more ads. In fact, many of financial media’s “screaming buy” recommendations are followed by a “screaming sell” recommendation only 30 days later. My advice for when you hear the pundits tell you that a particular investment is a guaranteed winner? Close your ears and calculate the facts for yourself. They are no smarter than you and they certainly don’t have your best interests in mind. Think for yourself.

7. They speculate instead of invest. The word speculator comes from the Latin word specere, literally meaning a spy. In the heady days of the Internet bubble, speculation became rampant. Everything was going up. You couldn’t lose! You simply waited a few months, weeks, or hours and someone else would come along to buy the stock from you at a higher price. That all worked nicely…until it didn’t. As Ben Graham (Warrren Buffett’s mentor) said, “An investment operation is one which, upon thorough analysis promises safety of principal and an adequate return. Operations not meeting these requirements are speculative. Know this, an investment is something that you’ve analyzed carefully. You know exactly what you’re buying. You feel confident that it’s stable for the long haul. You also know that it will give you an adequate return, either through an increase in share value or through healthy dividends for the price you pay. Don’t invest without knowing what you’re buying. Study it very carefully before you buy. If you must speculate, then do so with money that you won’t need for the future. In other words, don’t speculate.

Making mistakes is a part of any learning process. Knowing what they are, when you’re committing them and how to avoid them will help you succeed as an investor. To avoid committing them, develop a thoughtful investment plan and stick with it. Do your own thinking and don’t be afraid to do the opposite of the herd. Follow these guidelines, and you will be well on your way to building wealth with investing over the long term.

Be free. Nothing else is worth it.




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  • http://divhut.com Keith Park

    Great summary. I think number 6 is the most influential as scary and sensationalist headlines always grab the mind share of most which no doubt influences many with their investment decisions. It can be tough to tune out the talking heads and dozens upon dozens of articles, blog, web sites that tout “financial news.” Thanks for sharing.

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  • robbybonfire23

    Buffet’s rule about not losing money reminds me of an experience I had, riding home on the bus from the race track in Los Angeles, years ago. A young man sitting near me, who obviously had had a bad day at the races, talking out loud to no one in particular, changed the focus of my life when he said: “Everybody gets winners, it’s the losers that kill you.”

    Yes, cut down on the poor management and investing decisions and the winners are what are left standing. I think about this brilliant observation in the context of what I am striving to accomplish, every day of my life.

  • zachary

    Great post. Also, usually when people make a lot of money quickly, they lose it quickly due to spending it all because they’ve never had that kind of cash before. The practice of making money slowly over time is what keeps a rich person rich, because they had spent their time and energy earning it. They’re not just going to let it all go down the toilet.

    • https://www.montycampbell.com/ Monty Campbell

      That’s right. Without the right money habits, a person who comes into sudden wealth will most likely lose it (i.e. lottery winners). Success in wealth building is 85% mental (habits, discipline, etc…) and only 15% mechanical.

  • tim@alphainvesting

    i also see investors comparing apples with oranges. The P/E ratio of one company has little bearing on that of a company in a different industry.

    • https://www.montycampbell.com/ Monty Campbell

      Good point Tim. Investors are too often looking for one single measurement that fits everything. The markets, don’t work that way. It’s best to do your homework on investment, than rely on a single financial ratio to tell you everything you need to know about a stock.

      • robbybonfire23

        We have something, in horse racing handicapping, called the “Double Check Off.” What this means is that you apply TWO criteria to qualifying your investment/play, and if they both check off positively – it’s a bet.

        Best example is you bring together two football bettors who consistently beat the point spread with 60 per cent winners, but with using different selection methods. If you bet only on those games in which they are in agreement, yours (and their) winning percentage now rises to 69 per cent. The formula for this is winning percentage squared, divided by losing percentage squared, that result divided the sum of itself plus 1.0. So that you get 60 x 60 / 40 /40 = 2.25. 2.25 / 3.25 = 69 per cent.

  • Owen

    I agree about letting your emotions rule your decisions. The most common mistake made by investors. A sure fire recipe for investment return disappointment, if not disaster.

    • https://www.montycampbell.com/ Monty Campbell

      Yes, Buffett so aptly put it that to be successful in investing, you don’t need a high IQ. Rather, you need a high EQ (emotional quotient).

  • ashanuy

    Monty, what do you think about diversification? I noticed that you didn’t mention it. If you have all your money tied up in a single investment and something goes wrong, you will lose all your money. I guess too much diversification, however, will result in having too many investments to properly manage.

    • https://www.montycampbell.com/ Monty Campbell

      I follow Buffett’s principle about diversification – that diversification for lowering risks winds up lowering returns. The way to hedge against risk, is to not invest in risky businesses, not thru diversification.

      • robbybonfire23

        I would invest at high risk, IF I calculated that I had a ~favorable~ risk/reward ratio. In other words, better to bet on a horse at 20-1 odd who should be 15-1, than to bet on a horse who should be 3-1 odds, who is going off at 2-1.

        In the first example, I reap a long term 31 per cent positive R.O.I; while in the second example, I realize a negative R.O.I. of 25 per cent. This despite the fact that in the first example, I win just six per cent of the time, while in the second example I win 25 per cent of the time. It’s about making money, not about how often you win, a scenario in which you can still lose money while having a high rate of success.

  • Colin Reese

    I think another one is ignoring expenses. One of the most common mistakes that beginners make is ignoring investment expenses and the impact that such expenses have upon their investment returns. A two percent fee adds up over time.

    • https://www.montycampbell.com/ Monty Campbell

      Good point Colin. Those little fees do steal away from the investor.