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3 Horrible Reasons to Buy a Stock

Investing is very much a learning journey. Along the way, we are bound to make mistakes that we can learn from. I am no different, as my investment journey has been peppered with mistakes. Some of these mistakes can be attributed to buying shares for the wrong reasons. This has led to avoidable losses, which have eaten away my overall profits.

Based on my experience, there are three particularly horrible reasons to buy a stock and they are presented below.

Horrible Reason 1: A friend or broker recommended it

How often have we found ourselves in a situation where someone tells us the best stock picks at that time? We get excited and jump on the bandwagon once we get home, not doing the proper due diligence that all investments should in fact require.

This is especially true if we consider the “hot tip” to be from a reliable source such as our broker or banker. But this could be even more dangerous as brokers and bankers usually can gain from investors purchasing stocks on their platform.

As investors, we should be wary of hot tips, especially if the source has clear conflicts of interest. Therefore, with any recommendation, we should do our own research before making an investment decision.

Horrible Reason 2: Company reports good short-term results

Short-term results can often overshadow a company’s overall business. This can be due to one-off gains or a temporary positive business climate that are short-lived.

Such scenarios can often tempt an investor to buy into a company that may, in fact, be a terrible long-term investment. As always, we should get a better understanding of the overall story of the company before making such a rash decision.

Horrible Reason 3: Because a company is ‘cheap’

Some investors scour the depths of the market looking for companies that are trading at 52-week lows or have a valuation multiple that is way below the average stock.

However, there is often a legitimate reason why these companies are trading so cheaply. This can often be due to poor business models, shrinking industries or poor and untrustworthy management teams.

Before buying a ‘cheap’ company, we should ensure we do not get fooled (with a small “f”) into buying a terrible company, albeit at a cheap price as they might be poor long term investments.

The Foolish bottom line

Investing in stocks require looking at a multitude of factors. The three reasons mentioned here can be attributed to investors concentrating too much on a single piece of information, resulting in a poor investment decision. As investors, we need to have a clear view of the bigger picture of the company’s fundamentals and valuations, or we could end up making an investment mistake.

Meanwhile, for more (free!) investing insights, sign up here for your FREE subscription to The Motley Fool's investing newsletter, Take Stock Singapore. It will teach you how you can grow your wealth in the years ahead.

The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Jeremy Chia doesn't own shares in any companies mentioned.