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Are You A True Investor?

The Motley FoolIn the blink of an eye, the investing world has gone from “risk off” to “risk on”. Can you believe it was only a fortnight ago that the “A” in USA stood for Armageddon, as American lawmakers did their dirty laundry in front of the world?

Today the “A” in USA stands for Amazement, as the American market climbed to an all-time intraday high shortly after the US economy was pulled back from the brink.

I don’t know about you but I cannot allow my investing decisions be determined by what politicians may or may not do. Investing is far too important to be influenced by the whims and wishes of a handful of lawmakers.

Billionaire investor and author of Margin of Safety, Seth Klarman, once said that much can go wrong when investing. These include numerous factors beyond our control such as the economy, interest rates, war and politics.

But Klarman added that other factors are under investors’ control, but are not always controlled. These include staying within your circle of competence, prudent diversification and not overpaying. He also urges investors to react rationally to news or market events.

Klarman has given us plenty to think about. But the gist of his advice is to behave rationally, act logically and invest sensibly.

Consequently, it is important when investing to have an overview and understanding of where everything is going. Once you have built a clear picture in your own mind then try to fit your investing decisions into that rather than try to react to what is happening on a day-by-day basis.

At the moment that is especially relevant because there are days when you might think the world is going to hell in a handcart. And then we have days when you might think that nothing can possibly go wrong.

If you make investment decisions on that basis, then you are almost certainly going to make bad investment decisions because it is highly unlikely that either of those things is true.

However, human nature, being what it is, will try to push us from one extreme to the other. Just take a look at the Straits Times Index  (SGX: ^STI) over the last 12 months. It is currently around 3,200 points but it has been as low as 2,945 points and rose to a high of 3,454 points since October last year.

Therefore it is important to stay within our circle of competence because risk, as Warren Buffett pointed out, comes from not knowing what you are doing.

If you stay within your circle of competence and invest in what you know, then you are less likely to let fear of the unknown deter you from utilising your capital even at a time of deepest market pessimism.

So, try to know a few stocks really well. In fact, know them like you know the back of your hand. As an expert in those well-chosen companies, you should know better than anyone when they have been unfairly punished by the market.

Next comes the interesting part, which will help establish whether you are a true investor. The litmus test was provided by Seth Klarman.

He said if the price of one of your stocks goes down by half and you are champing at the bit to buy more, then you are a true investor. But if you don’t, then you are not an investor. Instead you are a speculator, and you shouldn’t be in the market in the first place.

A version of this article first appeared in SIAS eNewsletter.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore Director David Kuo doesn’t own shares in any companies mentioned.