3 Basic Investing Mistakes that You Shouldn’t Make

In expert tennis, 80% of the points are won, while in amateur tennis, 80% are lost. The same is true for wrestling, chess, and investing: Beginners should focus on avoiding mistakes, experts on making great moves.”

—Erik Falkenstein

Swedish economist Erik Falkenstein makes a good point. For those of us who are just beginning to invest, we may want to think of reducing errors first.

His point became more apparent while I was chatting with some ex-colleagues who are new to investing.

It dawned on me that there were several basic misconceptions about investing that may be prevalent among new investors. I feel that most of these errors can be easily avoided if only people were made more aware. So, here’re three such mistakes.

Mistake No. 1: The Expensive Stock click here

Mistake No. 2: The Uncertainty Paradox click here

Mistake No. 3: Chasing short term gains

“I was thinking of buying low and selling for a 10% gain. I just have to monitor the stock.”

The train of thought above may sound compelling at first. It suggests that we are not being greedy by looking only for a 10% gain. Buying low also sounds like a rational thing to do. Keeping tabs on the share price seems to be prudent.

But in practice, it doesn’t quite work the same way.

For one, looking at daily stock price movements may not make us better investors. Our minds are more likely to trick us into making wrong decisions if we follow short-term stock price movements.

Secondly, aiming for a short term 10% gain sounds feasible – but only in theory. My fellow Fool Chong Ser Jing once measured the returns of the Straits Times Index (SGX: ^STI) at the start of every month from 1988 to August 2013. This is what he found out:

  1. Hold the index for a year, and there’s a 41% chance you’d be sitting on negative returns (without adjusting for both dividends and inflation; there’s a reasonable chance that the effects of both will cancel each other out over the long-term though).
  2. Stretch that holding period to 10 years, and chances of suffering a loss fall to 19%.
  3. Double that holding period to 20 years, and there were simply no losses.

As you can see, the chances of hitting even a short-term positive return is a coin flip at best. That’s why an aim of a 10% short-term return may not be that easy to achieve.

This brings me to the final point.

Selling at a 10% gain may hobble the single most powerful trend that the investor has on his side, and that is the magic of compound returns. As an example, let’s look at the long term returns of Vicom Limited (SGX: V01). The table below summarizes the long term compounded returns for the test and inspection outfit over the decade ended December 2014.

Vicom price table (2)

Source: Google Finance

The simple premise is this, if we had sold out of Vicom at the first 10% gain back in 2004, we would have missed most of the long term returns that followed.

Foolish takeaway

If you are starting to invest, here are a few things you might want to keep in mind: (1) Understanding the difference between price and value may be where you want to start; buying shares with low prices might not always work out. (2) Trading around uncertain global events may make it worse. And, (3) capping your gains can also hobble your future returns.

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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 contributor Chin Hui Leong owns shares in Vicom Ltd.