7 Investing Mistakes to Avoid in the Stock Market
Investing Mistakes to Avoid
Everyone makes mistakes, but if you learn from other’s mistakes, then you can avoid them. Don’t lose money early on in your investment journey.
Recognize these seven investing mistakes to avoid losing money and build more wealth at the start of your investing journey.
Table of Contents
1.) Not Researching Your Investment Before Purchasing
You will feel tempted to purchase an investment before the price increases, but you need to research before buying it. Not knowing what you are buying can potentially be a bad investment in the future.
It may sound like a good investment due to the hype or crowd, but most people don’t know what they are investing in.
Let’s look at the start of the marijuana industry. Investors started investing in the marijuana industry back in 2017, believing it will generate large profits in the future.
The United States allows businesses to sell recreational marijuana, and marijuana regulations were lax. Marijuana company’s stock prices were steadily increasing until 2019.
The stock price of multiple marijuana companies from Aurora Cannabis, Canopy Growth, and Aphria dropped drastically too low. The stock exchange removed many marijuana stocks due to their stock price dropping under $5.00 and became penny stocks.
Marijuana companies failed due to increasing their profits on supply shortages, and the producers didn’t make enough to meet demand. Policy and regulations in different countries created setbacks for starting a marijuana business.
Investors lost trust in the cannabis industry, and few cannabis companies are trying to recover what was lost.
Investing in a newly created industry is very risky. There is no previous data or information to make an educated prediction if the marijuana industry does well in the future.
It can be said the same as investing in companies you don’t know about, but you heard it’s a good investment from unknown sources.
Avoid falling into this mistake by researching the company on:
- What’s the industry?
- What does the company do?
- How long has the company been in business?
- How much debt do they have vs equity and capital?
- Previous or recent major news of the company that can have a big impact?
- Understand accounting terms to read financial reports for more details.
2.) Only Buying One Type of Investment
Another mistake investors make is buying only one company or one type of investment. It feels good to own that one investment that produces a high return, but you’ll increase your risk.
The term putting all your eggs in one basket follows this meaning as only investing in one investment.
The problem with investing in one investment is a higher risk of losing your investment value. If that one investment fails and files for bankruptcy, then you wasted all your money.
You can lower your risk and increase your investment earnings by investing in other companies or investment types that are performing well to not fall into one category.
Even if your one type of investment is doing well, it’s better to diversify your investment into other areas. The future is unpredictable when it comes to the financial market, as anything can happen.
3.) Waiting too Long Before Investing
Before investing, consider paying off any debts and build a savings account in case of any financial difficulties. Then start investing, even if it’s a small amount like $1.00.
You want to develop a habit of investing your money to grow your returns over time. The payoff will be worth what you invest now and into the future.
The US market has continuously increased since the start of 1792, despite recessions that occur every several years. The earlier you invest, the higher the returns you’ll receive if you hold onto it.
By investing your money in the overall market, you’ll have a lower risk of losing your investment in the long-term.
Don’t try to time the market as it’s never a good strategy. It holds back the potential earnings you would’ve made if you had invested earlier instead of letting your money sit as cash.
There is no best time to invest as the market is unpredictable. If a drop occurs in the market, make your best judgment to decide to invest or not. The financial markets move unpredictably.
4.) Investing in Penny Stocks and Day Trading
Penny stocks are appealing as they cost only a few dollars or down to a cent to buy one share, and if you invest a high amount of money, it will give you a high return if the price increases. The problem is it rarely happens as they are penny stocks for a reason.
Companies that became penny stocks are removed from their stock exchange and are called “over the counter” (OTC) stocks. Being an OTC stock means it’s a very high-risk investment.
Stock exchanges have standard minimum requirements for businesses to remain in their stock exchange. Only a set amount of high-quality stocks can be a part of a stock exchange.
OTC stocks provide little information to the public and lack a long history of being in business. It makes it harder to decide whether a business potentially grows or declines and files for bankruptcy.
Investing in penny stocks is more of a gamble than an investment. Without relevant information and evidence of good business standing, you are hoping rather than thinking logically to support your investment decision.
Day trading requires an individual to be well-educated in financial markets and have up to $20,000 or more to be considered a day trader.
Being a day trader requires you to buy investments low on the same day and selling them the same day to make a small gain from that sale. It’s very risky as some days you may not make any returns and risk losing your income.
Day traders need certain tools to keep up with market changes:
- Trading Platform – Strong platform to execute trades within a second to capture the price to buy or sell
- Analytical Chart Software – Tracking certain stocks, monitor changes, and set up indicators
Avoid day trading until you educate yourself more on it, as it’s a high-risk form of investment trading. Don’t let other people persuade you to start day trading until you are comfortable with the possibility of losing all of your money.
5.) Not Having an Investment Plan
An investment plan helps keep you on track with your financial goal. Without a plan, you’ll lose sight of your financial goals by not maintaining your contributions or jumping into different investments without adjusting to your current investment plan.
Questions to Ask Yourself to Build your Investment Plan:
- How long will you plan to invest?
- How much money can you contribute on a certain basis?
- What is your risk tolerance?
- What type of investments will you keep in your portfolio?
- Will you be contributing into a retirement account?
If it’s too difficult to build a financial plan, then consider hiring a financial advisor, but save yourself money by first trying to learn personal finance on investments.
6.) Forgetting Taxes and Fees
The profits you earn are subject to taxes, and brokerage fees are applied. The tax you owe varies between your taxable income and how long you hold onto that investment.
Brokerages use the term “expense ratio” to express their operating fee but it can include other fees depending on the fund.
The tax bracket works by taking your taxable income plus investment profits and filing status and corresponds it to the tax bracket.
Then falls into a specific tax rate, either short-term capital taxes or long-term capital taxes, based on how long you hold an investment.
This topic won’t be explaining how much you’ll owe in taxes based on your overall taxable income. Instead, it’s the tax rate on the profits you made from selling your investment.
Short-Term Capital Taxes:
If you hold an investment and sold it within 1 year or less. The taxes will be applied based on your tax bracket onto your investment profits.
For example, if your filing status is single and you make in $40,000 taxable income plus $2,000 investment income, then your tax rate is 22%.
Source: Internal Revenue Service
Long-Term Capital Taxes:
If you hold and investment and sold it after 1 year. The taxes can be 0%, 15%, or 20% based on your taxable income. For example if you filing status is single and you make $40,000 taxable income plus $2,000 investment income, then your tax rate is 15%.
Source: Internal Revenue Service
Fees
Depending on your brokerage platform the fees will vary. Here are a list of common fees from brokerages:
Expense Ratio – The cost for operating the fund that’s set as a percentage. The fee applies only when you sell your investment and a percentage of expense ratio is deducted from it. If the expense ratio is .004% then for every $1,000 you invest $4.00 are deducted as the fee.
Front-end Load – A commission for buying an investment. The cost is a percentage based on how much you purchase. For example, if the front-end is 3% and you invested $150 then the commission is $4.50.
Back-end Load – Commission for selling an investment. The cost is the percentage based on the profit you made for selling an investment. For example, if the back-end is 5% and you made $243 then the commission is $12.15.
Account Fee – The cost for maintaining the account, typically the fee occurs if your account balance falls below a certain amount.
7.) Following the Herd
We hear companies like Amazon or Tesla that are “hot stocks,” and many people buy into it. The problem is listening to other people without researching the company itself.
It’s a lazy way to choose an investment to buy, and you’re listening to the voices of many strangers, and many aren’t financial professionals.
It’s not wrong to purchase an investment that is popular or trending. You have to consider if you’re okay with the possibility of losing your investment value or potentially holding onto that investment for a long time before it makes a profit.
In 2003, the dot com bubble crash was due to speculation or buying into popular uprising technology stocks.
The value of these tech stocks continues to grow exponentially due to the rise of Internet usage. Eventually, it reaches a peak point, then the overall market crash.
Many tech companies filed for bankruptcy after the bubble crash, such as Worldcom, Pets.com, and Boo.com.
However, Amazon, eBay, Google, and other well-known tech companies survived the crash by managing their finances better. Read the financial reports of a company to make an informed decision if you should invest or not.
