Investing can seem overwhelming — there are so many terms and theories! Today, I’m sharing a few common mistakes and lessons that are common for people starting out.
- Stock picking is less important than portfolio diversification and understanding risk.
- Past performance does not indicate future performance.
As a finance major in college and now professional investor, I’ve learned more traditional strategies and realized quickly how trading is portrayed so differently in the media! In the end, the most important part of investing your personal portfolio is understanding risk and diversification.
*Note, I am not your financial advisor! These are based on common portfolio management techniques and my personal experiences.
Investing Mistakes & Lessons
Misconception: I’ll start investing my savings by picking stocks that I know like Tesla, Costco, Nordstrom, and Netflix.
Most people start investing by trading around stocks of companies they are familiar with. In many cases, you would actually be lucky and make some money. If you’re not lucky, you also stumble into some losers too (Nordstrom, Verizon, J.Crew, Kraft Heinz). Plenty of retail companies have gone near-bankrupt in the past few years and often consumer-facing companies are the least stable given the high competition and high costs of labor and stores.
Sometimes, lucky people who invest blindly tend to start believing they have “good intuition” about the markets, similar to “hot hands” in gambling. Similar to gambling, investors are paid to be right just over 51% of the time.
Since starting my finance career, I’ve learned the hard way that Warren Buffet and most professional investors don’t green-light an investment on a whim. I spend hours / days studying company data and talking to industry experts before pitching it to my boss. Even then, I sometimes overlook major risks or later the trade does not even work out because of factors we cannot predict. Learning about investing takes time and experience.
Anytime you want to invest in a single company’s stock, you should ask yourself if it will likely beat the rest of the market.
Lesson: Think about your portfolio in terms of exposure.
Start by investing in a broader index like the S&P 500 through an ETF or index fund and invest in individual company stocks as you get more familiar. Indexes are more diversified and more beginner friendly. As a rule of thumb, the longer you don’t need the money, the more higher risk (and reward) assets you can have, because you can make back any losses over time.
The S&P Index has returned an average of ~7% annual returns historically. Beyond US stocks, learn about the different asset classes and industries. If you’re learning to invest for the very first time, see our decision tree and basic post on how to invest!
Some common portfolios below. The historical returns and volatility shows a likely range of your own portfolio can return over time.
Investing in individual companies takes time or risk tolerance (meaning how willing you are to take a risk). I prefer to recommend beginners dip their toes in through long-term, diversified investments like Index Funds and ETFs. I include some common funds in this investing blog post.
Misconception: Past stock performance will likely be the future performance.
These ~100 year averages are helpful to get a sense of investment returns and risks, but these numbers do not indicate what you’ll get. As an investor, it’s your job to research and logically decide for yourself what a realistic return will be for your timeline.
Lesson: Past performance does NOT indicate future performance.
Investment advisors are mandated to disclose this by the SEC – the US governing body that regulates the market and takes down illegal traders in Wall Street movies.
This phrase is a governing principle across every investment you’ll ever make.
- Just because a stock performed well for the past 10 years does not mean it will be guaranteed to perform well again this year.
- The stock price has “never gone below $5.25” but we cannot assume it never will. Companies change strategies, make wrong investments and face competition all the time.
- Just because the historical S&P 500 average returns is ~7% does not mean we will get 7% next year.
- A friend bought real estate and makes a profit. That does not guarantee we can recreate the same returns.
By rule of thumb, you cannot predict the future solely by looking at the past.
Hopefully these two investing mistakes and lessons were helpful! We’re happy to answer any questions in the comments below or via email. For more beginner investing content, follow our Investing thread.