Most of us tend to feel apprehensive when faced with financial jargon and our natural instinct is to stay clear of riskier, higher-yield investments. We tend to rely on the advice of family and friends to identify investment opportunities and even though their initial advice may be good, we often have to rely on ourselves when problems arise. Before making critical investment decisions, we need to know what could potentially affect our investment experience even before we start.
Do you remember your first day at school or as a new employee? Most of us tend to be ‘lost’ in the new environment until we are guided through the orientation programme. The more detailed the programme, the faster we are able to find our way around. The orientation also provides an overall view of the organisation and its culture, as well as the dos and don’ts. Similarly, before you dive into any investment, you need to be guided until you know what to look out for. The first step to doing so is to understand the issues that limit your investment potential.
Never invest with savings intended to meet short-term commitments. You do not want to be caught in a position where you are forced to liquidate your assets before reaping their rewards. Mixing your savings with investment assets increases the probability of dipping into or even emptying your savings when your investment makes a loss or goes south.
It is important to avoid this at all costs as the hole in which you are trying to dig yourself out from tends to get even deeper without financial reserves. For example, if you use your savings intended for mortgage payments to try and recoup the losses from an investment that keeps getting worse, you may eventually not be able meet your mortgage payments. The risk of foreclosure then becomes imminent.
In summary, make sure you are using spare money to invest and avoid dipping into your savings until all options are exhausted. Don’t lose sight of the safety net in your eagerness to get rich.
Setting up an investment portfolio is a good first step to take, but it won’t grow on its own. It is extremely important to monitor and rebalance it actively. Most of us, however, have a tendency to be so overwhelmed by work and family commitments that we neglect to monitor our investments.
Those who manage financial institutions constantly keep abreast of market conditions and pounce on opportunities or exit potentially unfavourable situations. As investors, we should do the same. Market conditions can easily change overnight and affect your portfolio, as in the case of the 2008 financial crisis, or following a government policy announcement such as property cooling measures. Ignoring subtle changes or failing to keep abreast of market conditions can result in serious negative consequences. Even if you have investments such as hedge funds or unit trusts that are managed by professionals, you must never lose sight of your portfolio. Any gain or loss of the overall portfolio is a gain or loss of your hard-earned money. Fund managers can give you advice, but you must be the one making the final decision. Manage your investments like a CEO of a corporation where you are accountable and responsible for all the decisions and actions taken.
It is often said that a failure to plan leads to a failure. You should always have a clear strategy of how you want to manage your investments, even if it is a simple plan. Don’t leave anything to chance and never set unrealistic targets. As with anything in business, there should always be an objective or milestone that must be achieved before progressing to the next stage. Your role as an investor is to emulate the way a top corporate organisation would run its operations and consistently increase its profits.
Having a plan is not as simple as saying that you want to be a millionaire within 10 years. You need to establish realistic and attainable targets. For example, your plan could be to buy blue chip shares in the technology sector and target a net annual growth of 8% in dividend and price appreciation. That is how specific you need to be. When you attain the targeted growth, do you continue on the same path or channel funds into other investments? If you miss your milestones, do you cut losses or stay the course? Your plan must be able to steer away from potholes and head for intermediate milestones as you chart your course toward the ultimate objective.
Most novice investors start out strong, but tend to panic midway when things go awry and end up changing their plans. When logic and strategy don’t prevail, we usually dig ourselves into a deeper hole since we will grab at anything thrown in front of us to stay afloat. Ensure that you don’t stray too far from your plans but adapt if and when it is necessary to suit the situation, be it rebalancing your portfolio or cutting losses. Remember that the market is dynamic and regular fine-tuning of your plan is expected, even if it is for the long term.
Whether you are buying a house or placing money in a fund, you need to understand what you are buying and if it suits you. An investment that suits others may not be ideal for you and there may be a costly exit involved when you hit a rough patch. There is a tendency to follow the pack, but this usually means that you are a few steps behind as the information is no longer current. Financial news reports or newspapers provide thousands of investors with the same information, which means that your chances of capitalising on this information are already gone. There is plenty of ‘noise’ in the financial markets and every financial expert has their own opinion on how the markets will perform.
The secret to filtering the noise is in doing your own homework. What you hear or read in the news or financial reports tends to be past achievements or information better suited to large investors with deep pockets. This is why your homework will help discern what is fact and what is old news. When taking your first steps into investment, your chances of success are higher when you do your research. It is when you let your guard down and start listening to ‘expert’ advice rather than working with your research that things fall apart.
Everyone wants to get rich in the shortest possible time. However, there is no get-quick-rich scheme unless you win the lottery or are lucky enough to strike a windfall by betting on a long/short equity. Billionaires such as Bill Gates, Warren Buffet and Mark Zuckerberg did not make their money from quick money schemes, but through well-executed investment ventures. But this doesn’t mean that it takes forever to get rich.
It’s always best to adopt a realistic, cautious approach than to jump into an investment scheme that promises everything but delivers nothing. Our impulsive nature tends to blind and distract us into taking more risks than we can manage. Although it is possible to win big through risky deals, we can also lose much more or even everything that we have by not being careful.
Being impulsive increases the chance of you misjudging the entry and/or exit point of the investment. Do not be hasty—there will always be opportunities for investment as market trends tend to be cyclical.
It is good to be confident but our ego can get the better of us sometimes. A few wins in your investment strategies does not make you a financial expert, especially during a rebound in the economy or financial market.
Overconfidence makes us take on more risks or neglect the fundamental rules of investment and we lose perspective and control as a result. Learn to take a step back, whether you are making or losing money, and spend time strategising your next move. There is nothing to gain by being gung-ho, especially when your hard-earned savings are on the line. Any serious decisions should be based on facts and firm foundations and not on emotional impulses.
How well do you really know yourself under pressure? If your investment suddenly dips and you are faced with a loss, panic often sets in and anger takes over. As our emotions get the better of us, there is a tendency for us to be distracted and to make impulsive decisions. In knowing yourself and your shortcomings, you will be better able to adopt the appropriate investment strategy to maximise your gains.
Here are some tips to harness your emotions to prevent them from affecting your judgement when it comes to investing.
No investor is able to sustain a perfect winning record as the laws of probability will set in at some point. You must be prepared to lose sometimes and be willing to make difficult decisions to cut your losses.
The rule here is to minimise the loss, accept the pain and move forward. One way to numb the emotion is to accept losses as a tuition fee as you gather experience. The sooner you overcome the fear of losing, the faster you let your risk management skills take over. It is always more difficult to recover from a loss than it is to make a profit. So focus on making and locking in your profits as they come along. Always make sure that the odds are in your favour—if they are not, head for the exit.
Bank traders have a big incentive to do well: big, fat bonuses. They all have budgets or financial targets to achieve annually. This means one of two things for traders—make it and enjoy the good life or fail and sleep on the streets. As an individual investor, you are your own boss so you need to act like a CEO and devise a plan to achieve your targets.
Setting a financial target allows us to focus better and to see the big picture. We want to avoid looking at single deals as a few losses can easily demoralise us. Having a target allows us to strategise and promotes disciplined trading as we aim for a clear objective. It is similar to pacing in a marathon, where you need to achieve a predetermined timing at each milestone. If you are behind your target, you need to catch up. And if you are ahead, then you can take a breather. In any case, you will still make it to the end.
As human beings, we are never satisfied. When we lock in a profit too early, we always feel regret if the rates move higher and we miss out on future gains. If we cut a loss early and the market soon reverses, we blame ourselves for being afraid to stay the course. We tend to forget that in a liquid and volatile equity or forex market, a profit can turn easily into a loss and a loss can grow exponentially within a blink of an eye.
We must manage our satisfaction and not allow it to manage us. Accept the fact that there is no right or wrong in the trading arena; it is all about establishing a comfortable zone and being satisfied with your decision and how the trade was executed. Don’t regret any decision as you can never turn back the clock. Just measure yourself on how successful your portfolio is and fine-tune it as you gather experience.
We tend to lose focus out of greed or fear when we think about the money we have made or lost. You can translate your gains and losses into dollar terms at the end of the day, but not while trading as your mind should remain focused.
Trading involves buying or selling a stock or share based on price difference, so just focus on that. Converting its value into dollars, especially in a losing scenario, only causes us to panic. Go back to your trading discipline and focus on the rate levels or pips needed to make a profit.
Investing is often likened to being on a roller-coaster ride as you will experience a series of emotional ups and downs in a short amount of time, sometimes even within mere minutes. Knowing which part of the cycle you are in allows us you to better control the situation.
At the start of the roller coaster ride.
When first starting out as an investor, you are naturally excited, anxious, optimistic, cautious and fearful all at once. All the ‘what if’ scenarios will flash in your mind. You have waited by the sidelines long enough and cannot wait to jump in.
The roller coaster is slowly ascending to the first peak.
Your first few trades will usually be winners as you have done your homework, kept to the plan and played safe. So you are on top of the world. It all seems so easy and the quick wins lead to more aggressive trading, and probably a few more wins.
The roller coaster sits at the top, ready to take the plunge.
When you start to amass sizable positions, reality sets in that the market can turn against you—especially after you experience your first or potential loss. Your nerves are shaken but you still remain calm as you are convinced that your strategy is a good one.
The roller coaster starts its descent and you grab on to the safety bar.
The market now starts to move against you, but you cling on to what you have as you don’t trust the market sentiment and believe you can ride it out.
Gravity takes control as the roller coaster moves through sharp bends, loops and turns.
When the market fails to recover as anticipated and the decline is steeper and faster than you thought, panic, fear and a loss of confidence sets in. Everything that can go wrong will do so and market forces take over. You are no longer in control.
The roller coaster slows down as it reaches home.
During the period of chaos you regret your actions and think about what you should have done instead. Your anger, sadness and perhaps even depression take over until damage control kicks in to salvage the situation. As the situation calms down, you will come to terms with your loss and accept the consequences.
If you are a thrill seeker, you will be back on the roller coaster.
As the worst is over, you see the light at the end of the tunnel with the market improving. If you survive this and are still standing, you will probably accept that the market is cyclical and that the experience is a wake-up call. As long as there is money to be made you will go back for more, but this time you will try to be better prepared.
Each of us will go through the above seven stages with varying degrees of intensity. Being ready for the peaks and troughs will help us to control our emotions and adopt a strategy for each stage of the investment roller coaster.
Even the most skilled investor or trader has lost money when investing. One of Warren Buffett’s major losses was his investment in a company called Dexter Shoes, in which he lost US$3.5 billion, and George Soros is known to have lost US$600 million speculating in the forex market. Whether they are investing or trading, professionals are aware that they are taking calculated risks with no guarantee of success. That is why they will always make every effort to shift the odds in their favour before stepping in.
You can equate trading (and to some extent, investing) to gambling in Las Vegas. Put an ordinary man from the street in a casino and chances are that his wallet will be lighter when he leaves. However, the odds of success are much better with a professional gambler. What makes a professional a better gambler is the time he has spent to master the game and to leave as little as possible to chance.
Let’s take a step back and look at the key considerations that will influence how you play the game even before you make your first trade.
Everyone has his or her own unique personality, behaviour, preferences and experiences that will influence their trading style. Before you start trading, it is important to profile yourself and take into consideration factors such as the ability to manage stress, risk tolerance, patience level, etc. so you can apply an appropriate strategy to suit your personality. There is no single magical strategy or methodology to suit all traders as there are multiple variables influencing your final decision.
A common mistake made by novice traders is the ‘I know it all’ syndrome. Be honest with yourself—no one is perfect, and especially so under stressful situations, so learn to step back when you know your decisions may be compromised and adjust your actions accordingly.
Are you a full-time trader or do you trade in the evenings after your day job? Or are you a housewife who trades in between household chores? Our lifestyle choices dictate how, when and why we trade.
There are two key elements that you need to keep in mind when trading—time and money. Financial institutions can literally trade around the clock as trading positions can be passed on to different time zones (Asia to Europe to America). These institutions also have deep pockets and as such can easily move the markets (also known as a market marker).
For the individual retail trader, the time available for trading is limited to our waking hours or free time depending on our lifestyle. It is important to establish optimal trading hours that allow for full concentration and when the markets are active (in relation to the currency traded or stock market). A common mistake we make is to assume that we can multitask while trading. A lack of concentration can result in costly errors.
If you are a full-time trader, time is generally not an issue but you still have to know when the peaks and down-trading times are in order to pace yourself. Don’t worry if you have a full-time job, you are not significantly disadvantaged as more time spent on trading does not equate to higher profits. Your trading strategy just has to match your trading hours, so work smart—not hard.
Always ensure that you have the discipline to trade within your financial means. While your investments depend on disposable income or personal savings, you must ensure that any money used for trading must not affect your existing lifestyle and basic needs. Never trade with borrowed money. When trading, you must take the view that it will be acceptable even if you lose all the funds, otherwise you place unnecessary stress upon yourself and it will ultimately cloud your judgment.
It is important to know that bigger players in any investment or trading activity will always have an upper hand over the smaller individuals. They have enough clout to affect price movements and have access to sensitive information or even dedicated market researchers who can identify opportunities well ahead of their competitors. Even though we often say that traders deal in ‘perfect’ market conditions, that is not absolutely true.
However, this imperfection allows for arbitrage opportunities as market information will take time to trickle down, so use this to your advantage. When you fully understand your place in the scheme of things, you will know how to strategise. For example, forex or share price movements often follow predictable trends and cycles following announcements such as central banks’ interest rate decisions, and the classic ‘herd mentality’ driven by panic will move rates and prices in one direction. These opportunities should be seized to maximise profits or avoided to protect your investments.
Even if you have all the tools and information readily available, our basic human nature can sometimes distract us from the path to success. When we hit a speed bump, our irrational emotional behaviour can take over and create undesirable results. Before making any critical decision, always take an overview of the existing situation—only with a clear mind can you then finalise your actions.
As a trader, it is important to have access to real-time information as a comment from the Federal Reserve or a report on a particular country’s economy can significantly affect rates or prices the minute it is released. Thanks to advancements in technology and the Internet, information can now be streamed directly to you at any time of the day, anywhere around the world. However, too much information can be overkill.
The key goal is to understand the impact and consequences of trading information in order to profit from it. You do not want to be overwhelmed by news. A good idea is to create a dashboard so that you can focus on major market news. For example:
• Maintain a market event calendar to focus on weekly major events and announcements that will impact market movements, such as the release of market data on the Consumer Price Index (CPI) or Purchasing Managers Index (PMI), employment data, central bank interest rates, bond purchase or refinancing. Knowing when and what key events are going to take place allows for a better analysis of market situations and reactions.
• Select or subscribe to a few reliable financial news broadcasters who can provide real-time financial news, analysis and commentary. Only look for providers who specialise in financial news. The preference is for services broadcast over television or ‘live television’ over the Internet as you will be able to spend time reading and trading.
• I always advise investors to focus on current news as there is a higher probability of it having an immediate impact on the financial markets. However, sometimes the markets already factor in the consequences or prefer to adopt a wait-and-see attitude. This is why your experience will come into play to know how and when to filter out the ‘noise’ and to read in between the lines.
• Watch for geopolitical news events or headline news as wars, natural disasters, politics and government policies can impact how markets react to positive or negative announcements.
Have you noticed how the news has a tendency to be overplayed and how the experts will often add fuel to the fire? For example, the US Federal Reserves announced the possibility of Qualitative Easing ‘Tapering’ in May 2013. Even when the Federal chairman tried his best to clarify what it meant, the news media and experts took it to extremes by stating the dire negative consequences. When the Federal Reserves announced its tapering actions seven months later, the markets did not collapse as was widely anticipated but instead improved. This is why you need to be able to filter the noise from facts to improve your odds.
Financial experts will always advise you to diversify your investment asset classes with non-correlated assets so an economic downturn or financial crisis will not wipe all of your investments. This is sound advice, but it does not mean that you should scatter your savings into numerous investment portfolios such that you are overstretched and your odds of failure are increased.
Always keep it simple. Invest in one or two portfolios that you fully understand and maximise your gains rather than having 10 portfolios that you cannot master and that distract your attention. Like many salespeople, financial advisers make a living from selling a range of products even though these may not be in your best interest. Learn to say no where necessary as there is no obligation to buy into all the products even though the returns may look reasonable. In this case, it is better to be a specialist rather than a jack of all trades.