This is Yong Chu Eu's Blog, to share on financial planning article and wisdom, media's interview and financial planning courses news
Tuesday, November 29, 2011
How to avoid common pitfalls
EVERYONE makes mistakes one time or another. As investors, we need to learn
from our investment mistakes by recognising them and making the appropriate
adjustments to our investing discipline.
Many people invest without
learning adequately about the investment process or the different investment
products and without considering what they really want to achieve over the long
term. These kind of investors often react negatively to the short-term
volatility of the markets, heed the advice of self-proclaimed gurus, enter the
markets at an inopportune time, and subsequently end up with a mountain of
The following are some of the common mistakes that investors
make that can hurt the performance of their portfolio:
* Not preparing
emergency funds before investing
Investing without any allocated emergency
funds is like going water rafting without a life jacket. Before venturing out to
the markets, investors are advised to set aside at least three to six months of
expenses to take care of financial emergencies (such as a job loss) or
unexpected cash flow problems. The fundamental purpose of this cash buffer is to
provide both fiscal and emotional stability during times of personal economic
* Market timing
Although markets may move in
cycles, this does not necessarily mean that we can determine when to enter and
exit the market at its lows and peaks respectively. Seasoned and successful
investors like Warren Buffett do not use market-timing tools because they, more
often than not, do not work. Thus, individual investors will save themselves
from substantial losses if they stay away from trying to time the market. In
fact, given their limited experience in understanding financial markets,
individual investors would do better focusing on investing in unit trusts for
the long run.
Investors should not
procrastinate when investing because an early start can make a world of
difference in the potential returns as a longer time horizon will allow
compounding interest to work effectively. Meanwhile, the longer you wait to get
started with your investments, the more money you will have to put in to get the
same returns as someone who started investing earlier.
* Taking too
much or too little risk
As risk and returns go hand-in-hand, the
amount of risk you take when investing can determine your potential returns.
Nevertheless, there are those who take too much or too little risk. Investors
who are high-risk takers often end up as speculators and often make investments
without conducting prior research. However, investors who are too conservative
may bear the risk of inflation eating into their purchasing power. Instead of
merely relying on your risk tolerance to shape your investments, you should also
take into consideration your financial goals and time horizon.
Diversification is among the most fundamental
principle of investing to a flourishing investment portfolio. Even so, many
investors neglect to properly address this step by putting all of their eggs
(investment) into one basket (asset). A well-diversified portfolio will adhere
to all components of asset allocation - considering risk tolerance, investment
capital available, investment time horizon and the current portfolio's asset
* Becoming emotional in making investment
Most investors allow emotions - especially greed and fear -
to drive their investment decisions. For instance, emotional investors will be
tempted to sell an investment when its price falls sharply. As a result of
following their emotions and gut instincts, many investors end up "selling at
the lows and buying at the highs" of the market. Instead, they should
objectively evaluate the reasons for the price decline and see whether they are
caused by broader market conditions.
* Lack of
Investors should do their homework before investing.
Successful investing requires on-going time and effort, which includes investors
conducting their own investment research. Investors should also take note that
past performance of an investment is not an indication of future performance.
* Panicking during bear markets
During major bear markets,
it is common to see investors letting emotions get the better of them and in the
process they sell off their investments in a panic frenzy. Investors who hold a
long-term stance would not be affected by these gyrations of the stock markets.
Instead, they might view market weakness as an opportunity to accumulate
under-valued blue chip stocks at attractive prices.
Everyone make errors
in their investments but what separates the winners from the losers are those
who apply what they learn from their mistakes. The key to successful investing
is not to avoid risk altogether but to recognise the risks you are
To avoid unpleasant surprises, do your homework. Nothing beats
reading the prospectuses and checking the long-term performance of the
investments. As American fund manager Ronald W. Roge once said: "People rush
into purchases even when they don't understand what they are buying. People do
more research when they buy a refrigerator or a VCR than when they invest
thousands in (the markets)."
Even millionaires make mistakes (and learn
Benjamin Graham went bankrupt on three separate occasions as
an investor. But each time, he documented and studied his failures, and he was
eventually able to impart this investment wisdom to countless others, including
Warren Buffett, who in turn learned from his own mistakes and
Early in Buffett's career, he mistakenly believed he could save
a failing textile mill. After being forced to liquidate its textile operations,
Buffett learned to pay up for quality. He turned that failing company into a
US$140 billion (RM417.2 billion) business.
Another great example is
Pixar's John Lasseter. After he graduated from college, Disney hired him to
captain its Jungle Cruise ride at Disneyland. Later, the company gave him a shot
at being an animator, and he quickly recognised the ability of new computer
technologies to revolutionise animation. However, Disney was so unimpressed with
his first feature that Lasseter was fired on the spot. So, he went back to the
After fine-tuning his processes, he moved on to the
company that would become Pixar, where he has won two Academy Awards and churned
out a string of blockbuster hits that include Toy Story, A Bug's Life, and Cars.
Ironically, he and partner Steve Jobs later sold Pixar to Disney for US$7.4
billion (RM25.1 billion).
Moral of the story: Always learn from your