The investing version of the seven deadly sins might not send you straight to hell but could still send your returns up in smoke. Here are a few of the sins that can savage your portfolio – and what you can do to avoid temptation!
1) Lack of diversification
One of the most common investing sins is having too much money in a single investment or asset class. Diversification will help smooth out the peaks and troughs of investing. Spreading your money round the world, across a mix of asset classes, sectors and investment styles, will help prevent destruction if any single investment crashes and burns. Aim for a well-balanced portfolio with the hope of decent returns.
Don’t assume that holding different funds is a direct route to diversification, instead try to get a more holistic view. For example, check that the same companies don’t keep popping up in the top 10 holdings, and if you can, try to avoid duplicating your pension investments in your ISA.
2) Trading too much
Selling investments as markets fall and chasing after fads and fashions might seem a direct route to maxing out returns and minimising losses. It’s easy to become over confident, and mistake luck for skill. Sadly, the only guaranteed result is racking up a lot of trading fees.
People who trade less often tend to end up with higher returns, not necessarily by making better trading decisions, but by making fewer bad ones.
3) Excessive fees
Investment fees may not sound like much – the odd percentage point here, a 2% charge there. But every pound you pay in fees eats away at your future returns, and only makes a bigger impact over time. You don’t just lose the small amount in fees, but all the growth that money might have generated in future.
In some cases, paying higher fees can be worthwhile. After all, investing is about returns after fees, and some active funds have beaten their benchmarks after fees over long periods of time, but that is far from the norm. So scrutinise the fees you pay and consider whether there may be a better option.
4) Not taking enough risk
Not taking enough risk can be as dangerous as taking too much. Risk often has negative connotations, but when it comes to investing it is a crucial ingredient to achieve long-term returns. As discussed above, diversification is important and that includes how you should think about risk. By investing only in ultra cautious assets when you have decades ahead (such as in a pension) you end up with a suboptimal risk, and therefore also return, profile. Investing is a long-term game so if you have time on your side, you could afford to bump up your exposure to riskier assets such as equities and venture into higher risk areas like emerging markets. We have previously written about risk versus volatility, and this is an important piece of the investment puzzle that every investor should try to understand.
5) Selling too soon
This is a sin that is typically applied to selling when an investment has fallen a lot in value, thereby crystallising the loss. No one likes seeing losses and it can be difficult to hold your nerve surrounded by news headlines about market falls. But don’t be panicked into selling in haste and repenting in leisure. Those who sell as prices plunge can find it difficult to decide when to return to the market – and could miss out on some of the best days in the market, and the boost for those who remain invested.
Then there is the opposite scenario – selling something that has done well only to watch it continue rising for many more years. Whist there is a risk that you could lose your full investment, when it comes to equity investing in particular, your downside is capped at 100% (unless you keep reinvesting in things that continue to go down), but your upside is unlimited. Sometimes it is better to hold on to your seat and enjoy the ride.
6) Not getting round to rebalancing
Having said that, don’t let a sensible "buy and hold" strategy descend into "file and forget". It’s important to monitor your investments from time to time to make sure that your overall asset allocation remains roughly in line with your intentions. Different asset classes can perform very differently, so if you decided on a particular split between say equities and bonds, then you may want to check in at least once a year to make sure that balance remains roughly the same. Otherwise, over time you could end up with a very different combination from your original plan.
7) Chasing the herd
Don’t be dazzled by short term results and get sucked into flavour of the month investments. All too often, the latest trends fail to repeat their soaraway success. Just because someone else made a ton of money in a specific investment doesn’t mean you will replicate their results. Your goals and attitudes to risk may also be quite different and therefore what might suit one investor, doesn’t necessarily suit another. So make sure to look beyond short-term performance, which could just be a lucky break, and focus on the fundamentals and your own long term investment goals.
Seduction by the seven deadly sins of investing can do serious damage to your portfolio. Who, hand on heart, can say they have never succumbed? Investing can be complex, but by avoiding some of the most common pitfalls, you can improve your chances of long term success.
The information in this post is not financial advice, it is provided solely to help you make your own investment decisions. If you are unsure about whether an investment is appropriate for you, please seek professional financial advice. You can find more information here.
When you invest you should remember that the value of investments, and the income from them, can go down as well as up and that past performance is no guarantee of future return.