5 Big Blunders of DIY Investors
11/28/2011 9:53 am EST
And here’s how to fix them before they blow a hole in your savings, writes Rob Carrick, reporter and columnist for The Globe and Mail.
There is a close relationship between do-it-yourself and blew-it-yourself investing.
Vancouver financial advisor Ian Collings figures that between one-third and half of his new clients have been doing at least some investing on their own. In looking at their portfolios, he’s found several recurring mistakes that hurt their results.
"I see a lot of bad portfolios," said Collings, a certified financial planner who cataloged the blunders of do-it-yourselfers in a recent blog post. Advisors have since been distributing the list on Twitter for obvious reasons.
If you’re hurting yourself as an investor, an advisor is one answer. Another is to study common blunders so you can become a stronger self-directed investor. So let’s dig into some of the points highlighted by Collings:
- Not realizing you lack the time, knowledge or self-confidence to invest for yourself.
"This to me is a big one," he said. "I know of a number of people who opened an [online brokerage] account and left the money in cash because they don’t know what to do. Or, they do invest the portfolio and, as more cash creeps in, don’t didn’t know what to do with that additional amount. This is often a big catalyst for people calling me. They say, what do I do with this extra money?"
Money sitting in cash in a brokerage account typically earns zero interest these days, or a token amount at best. At volatile times like these for the stock markets, simply not losing money may look like a victory.
But this view ignores the returns forgone because you didn’t use your money more productively. At very worst, you can earn in the area of 1.2% by parking money in a virtually bulletproof high-rate savings account that you buy and sell like a mutual fund.
To be a successful do-it-yourself investor, you need time as well as knowledge and the confidence to apply it. Collings estimates it takes a few hours per month to tend a portfolio.
People who ignore their portfolios forgo the opportunity to rebalance their holdings, which means making adjustments that get you back to your target mix of stocks and bonds. Portfolios that become overweighted in stocks because of a lack of rebalancing can be too risky, particularly for investors approaching retirement.
- Half-hearted diversification, or worse.
Let’s start with bonds. "I think do-it-yourself investors neglect bonds entirely in many cases," Collings said.
Another problem is too much concentration in a few stocks, some of which are chosen using some fairly superficial criteria. "I’ve seen a number of people with large Apple (AAPL) holdings. People say it’s a great company, Steve Jobs is brilliant, the whole bit."
What Collings doesn’t see as much as he thinks he should are DIY investor portfolios with the diversification provided by exchange traded funds or other types of fund products. A traditional ETF tracks stock and bond indexes, and thereby provides exposure to a wide variety of stocks or bonds.
Perhaps Collings’ Vancouver location is to blame for the preoccupation his new clients seem to have with real estate.
"It’s hilarious," he said. "They have their principal residence, they’ll have a rental property, and then when it comes time to sit down and talk about their investments, what do they want? They want real estate-style investments."
NEXT: 3 More Blunders|pagebreak|
- Focusing too much on stock trading commissions and not enough on other costs.
Low trading costs are the main reason to invest for yourself. A few years ago, when stock trading commissions were commonly in the minimum $29 range, do-it-yourselfers paid about one-third the cost of people with advisors.
Today, many brokers charge just under $10 if you have at least $50,000 in assets with the firm, and there are brokers charging as little as $4.95 a trade or $1 for 100 shares (that would be Questrade and Virtual Brokers, respectively).
It’s sometimes a mistake to think that a $9.95 trade costs only $9.95, Collings said. If you’re buying a foreign stock, currency exchange charges will apply at rates that are highly profitable for brokerage firms. And if you’re buying the shares of a company that doesn’t generate big trading volumes, you may have to pay a premium over the market price to have your trade completed.
The more you trade, the higher your total costs rise. Eventually, Collings warned, these costs could create as much a drag on your returns as the fees on mutual funds.
- Making mistakes of inattention.
When you’re trading stocks online, you need to be vigilant that you’re buying the right stock on the right stock exchange.
Collings recounted a story told by a client who wanted to buy the iShares Gold Trust (IAU), which trades on the New York Stock Exchange. By mistake, he bought a penny mining stock called Intrepid Mines, which trades on the Toronto Stock Exchange under the same stock symbol.
This cautionary story actually has a happy ending. Intrepid Mines has delivered a gain of 500% for Collings’ client.
- Focusing on trading rather than on investing.
Collings says he’s noticed an attitude among some DIY investors that they have to tend their portfolios on a day-by-day and even hour-by-hour basis.
"People have said to me, ’I don’t have as much time for investing any more because I can’t be logging into my account all the time, ready to make trades.’ People think they have to be engaged full time to find value in the market."
If you’re a trader, then maybe so. But investors are best served by developing a plan, executing it, and then doing only periodic checks to make sure everything is on track. There’s simply no need to check your portfolio every day.
"Some people feel they’re inadequate investors because they’re not watching (CNBC) all the time," Collings said. "To me, that’s sort of missing the point on what investing is all about—long-term diversified participation in capital markets."