Are You Sabotaging Your Portfolio?
We all like our investments to do well. We research companies, and build portfolios, and hope that we will strike gold.
And, while there is risk in any investment, and sometimes it really is out of your hands, the reality is that you might be the problem with your portfolio. Here some of the ways you might be acting as saboteur to your own efforts:
Paying High Fees
One of the reasons many investors become frustrated with performance has to do with fees. I recently moved my IRA from a fund that charged 2 percent a year to one that charges 0.15 percent. That can make a huge difference over time.
From transaction fees to expense ratios, pay attention to the fees you are charged, and make an effort look for less expensive alternatives. There are plenty of low-cost opportunities; there's no need to allow fees to erode your returns.
Frequent Trading
Too much trading can be bad for your portfolio. While there are some day traders that do well, most of us need to adopt a more low-key approach. Frequent trading can lead to selling at inopportune times.
On top of that, the more you trade, the more you will pay in transaction fees. It's very difficult to see regular returns on a level that offsets the transaction and commission fees that you might be paying.
Instead, limit the amount of trading you do. Look for fundamentally sound assets that have staying power, and that you don't likely have to worry about on a week-to-week basis. Build a portfolio that you can manage by rebalancing just once or twice a year.
Too Much Confidence
My husband has a PhD in psychology, and one of the things he told me recently is that, in studies, most people consider themselves "above average." This belief, combined with the biases we have in attribution, can lead to serious problems with your investment portfolio.
When an investment does well, we are inclined to attribute that to our own savvy: "I picked a winner!" However, if an investment does poorly, it's all about blaming the results on someone else: "It's the market! I'm sure it will recover."
Confidence in our own stock-picking abilities can lead to choosing investments without proper research. Plus, this over-confidence can lead you to begin taking bigger risks, sure that you are an investment genius. If one of those bigger risks goes bad, you could lose more than you can afford. You need to find a balance between fear and confidence.
You don't want to shy away from all risk, but find the right level of risk for your situation. And, instead of deriving confidence from your "ability" to pick a "hot" investment, look into the fundamentals. Make more informed decisions in a state of calm, and your confidence will come from a much better place.
Investing in Things You Don't Understand
Before you invest, you should know what you are getting into. I think that index funds are a good place to start because they offer a measure of diversity, reasonable risk, and they are easy to understand.
Investing in something you don't understand can lead to nasty surprises down the road. If you don't understand how a company is placed in its industry, how do you know if you are really buying the right stock? You shouldn't be trading currencies if you don't understand how forex markets works, as well as factors that usually impact various currency pairs.
In order to make better decisions, knowledge of how an investment works--what factors influence it, what makes it valuable, how it is traded--is necessary. This applies to funds as well. Know how to evaluate the underlying investments in a fund before you make a decision, and the unique factors that can impact some investments. For example, before you invest in a commodity ETF, you should understand the possibility of contango, and you should know the risks of emerging market bonds before investing in an index fund that tracks them.
Don't sabotage your portfolio. Consider your goals, and make a plan that you can stick to. With a little research and practice, you can become a very solid investor with results that you can be happy with.
Miranda is a freelance contributor to several investing and personal finance web sites. She also writes for her own blog, Planting Money Seeds.
