While no investment approach is successful all of the time, here are six common investing mistakes to avoid:
Inability to take a loss and move on. Psychologically, it's difficult for investors to sell an investment with a loss. Often they prefer to wait until the investment at least gets back to a break-even level. However, that may never happen or may take a long time to do so. The best approach is to forget about the past and ask yourself: "Would I make this investment today?" If the answer is no, it's time to sell and invest the proceeds elsewhere.
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Not selling winners. When an investment has increased dramatically, you may be reluctant to sell it, even if you feel its price has gone too high too fast. There is always the risk that you'll sell and the price will keep going up. But sometimes it's best to protect your gains and sell while you're ahead or at least consider selling a portion of the holding and reinvesting the proceeds elsewhere. Same question as above applies here.
Not setting price targets. One way to take the emotion out of selling is to set price/return targets both on the upside and the downside. You don't have to sell when the investment reaches those targets, but at least review that option. Sticking with rigid rules for selling when an investment declines by a certain percentage can help prevent substantial losses. Stop orders can help with exchange-traded investments like stocks and ETFs.
Trying to time the market. It's difficult to predict when the market will rise and fall. Even if the stock market is following a general trend, there will be up and down trading days. Trying to buy and sell stocks based on those daily fluctuations is difficult.
Worrying too much about taxes. Taxes can consume a significant portion of your investment gains for holdings in a taxable account. Even if you have long-term capital gains, 15 percent of your gain will go to capital gains taxes. However, avoiding taxes may not be a good reason to hold on to an investment. There are several strategies you can use to offset the tax burden associated with an investment gain, but there is not much you can do about a loss in investment value. You may have several holdings that show a paper loss at various points in time. It might make sense to realize some of those losses to offset current or future gains as part of your periodic portfolio rebalancing. In general, when considering whether or not to sell an investment, you should make the decision based upon its merits as a holding first, with tax considerations being secondary.
Not paying attention to your investments. Your portfolio needs to be evaluated and monitored on a periodic basis or you could miss signals that it may be time to sell. You should reevaluate an investment when the company changes management, when the company is acquired by or merges with another company, when a strong competitor enters the market, or when several top executives sell large blocks of stock. This applies to mutual funds as well. Manager changes, a dramatic increase or decrease in assets under management, or a deviation from its stated style should all be red flags that cause you to evaluate whether it may be time to sell the fund.
If you are uncomfortable reviewing your investments, it may make sense for you hire a financial professional to take an independent look at your portfolio.
Roger Wohlner , CFP®, is a fee-only financial adviser at Asset Strategy Consultants based in Arlington Heights, Ill. where he provides advice to individual clients, retirement plan sponsors, foundations, and endowments. He recently cofounded Retirement Fiduciary Advisors to provide direct investment and retirement planning advice to 401(k) plan participants. Follow Roger on Twitter and LinkedIn.