6 Beginner Mistakes to Avoid in Stock Market Investing 1

Everyone got to start somewhere. There might be some painful and expensive lessons. Then there are times where you get lucky and learn from someone else’s mistakes. In this post, I want to go over 6 mistakes that early investors tend to make so you don’t have to. And yes, I have made some of these mistakes myself.

Disclaimer: None of what I’m talking about should be considered as financial advice. It is only for entertainment and educational purpose only.

1. Not Doing Your Own Due Diligence

Investing in a company just because your friends or analysts recommend the company is usually a disaster waiting to happen. It’s not because the company is bad in some cases, rather it has to do with your lack of knowledge about the company. If you don’t understand the industry and what the company does then it is really difficult for you to filter out the noise. You’ll likely panic anytime there seems to be bad news about the company. If you understand the industry and the company, then you can distinguish whether the news actually hurts the fundamental. If the news doesn’t then that’s a buying opportunity.

Now, this doesn’t mean you shouldn’t listen to recommendations from others. It is actually a good way to find hidden gems sometimes. However, before you make an investment in the company you need to do your research. Make sure the fundamentals and what the company is doing are sound. Only then would you have the confidence to invest in the company and have steady hands on big red days.

2. Thinking the Shares of a Company Is Too Expensive Based on the Price

For some reason, early investors seem to be drawn to the price of a stock. They neglect the whole picture of where the price of a stock fits in the valuation of the company. The number of shares out there matters as well and together it makes up the market capitalization of the company. To put it simply the valuation of a company is the number of shares out there multiply by the price per share. Unless you know how many shares are out there, a stock that has a high price might not be expensive from a valuation perspective.

Take for example there are company A and company B that are both in the same industry, roughly the same size, and they provide the same type of products and services. The stock price of company A is $1000 and company B is $100. From that information alone you can’t truly say which company is more expensive. Now if you know the market cap of company A is 10 billion and company B is 100 billion, then you can say company A is cheaper than company B. Of course, there might be some reasons why company B is at such a high premium and it is up to you to do research to find out.

3. Expecting Past Performance to Continue

Some investors expect to buy the stock of a company that is low and expect it to go back up to a previous high price. Sometimes it ends well, but more often than not it ends up being a losing investment. A company has a big fall in its stock price for a reason. Maybe the fundamental of the company has taken a turn for the worst and are at risk of bankruptcy. In such a situation, the likelihood of the price recovering is low.

Now, I’m not saying you should never buy a stock of a company that has been beaten down. As long as you have done your research and know that the company is turning things around then it can make a great investment. Investing in a turnaround company before Wallstreet knows about it provides you with a great entry price.

4. Not Following the Companies You’re Invested In

Owning shares of a company doesn’t just mean you have some dollar amount attached to a symbol. When you own shares of a company, you actually do own a small percentage of the company. Wouldn’t you want to know what is going on with your company? Too many investors just buy some stocks then hope for the best. If that is the goal, it is better off to go with an index fund because it allows you to sit back and do nothing.

5. Holding and Hoping Stock Price to Bounce Back

So you bought a stock and the price fell and now you’re planning to hold onto it until it breaks even. Sounds like a great plan except you have no idea if it would go back up to break even or how long it will take. While holding on to the stock you’re giving up an opportunity to invest in another high potential company. This can become really costly especially if it is to avoid a few percent loss.

Think about it for a moment. You’re down by 10% and there is another company out there that is incredibly undervalued and has the potential to go up by 10 times. Instead of selling and taking a 10% loss, you hold for months or even years to break even. While during that time, the undervalued stock went up by 5 times.

Another issue with holding to break even is that greed can get you. Let say the price does get back to breakeven. Since the stock has been going up, you don’t want to sell it anymore because it can go up more. So, you continue to hold then it starts dropping and you missed the chance to sell again then the cycle repeats.

Lastly, the most misunderstood point is that when a stock drops by X% it takes more than X% up to reach breakeven. Let’s go through a simple example. A stock is $10 then it dropped by 20% ($2) to $8. Now to go from $8 back to $10, the stock needs to go up by 25% ($2). So, the lower a stock goes the tougher it is to get back up to breakeven.

6. Trying to Time the Market

Trying to time the market is one of the most common mistakes made by early investors. This is because the thinking goes “I’ll buy at the low and then sell at the high.” While that makes sense, execution-wise it is nearly impossible because there is no way to know when is the top or bottom. So, instead of focusing on timing the market, you should focus on the now (time in the market).

The reason to focus on the now is because it is the only guarantee in the market. The current price for the stock of a company is a guarantee if you act fast. Any other time, it is all about probabilities. The price can go up or down in the future with different probabilities. Put into practice, this really comes down to dollar-cost averaging.

I hope this post was helpful to you. If you found this post helpful, share it with others so they can benefit too.

To learn about actionable steps you can take during a bear market you can check out my post on navigating a bear market. If you’re new to investing and need a guideline to help you start your investment journey you can check out my post on setting yourself up for financial success.

To get in touch, follow me on Twitter, leave a comment, or send me an email at steven@brightdevelopers.com.