Quit Making These Investing Mistakes

Are you well-armed against the 20 most common investing pitfalls? In this week's episode, I dive into the critical importance of setting reasonable expectations for returns, having clear investment goals, ensuring portfolio diversification, and avoiding the pitfalls of falling into short-term focus. We also shed light on the dangers of excessive trading, the influencing power of media hype, and how unchecked emotions of fear and greed can lead to poor financial decisions.

The episode doesn't just stop at identifying these mistakes; it offers valuable guidance on how to steer clear of them. Learn about the often-overlooked aspects of financial planning, including controlling asset allocation, managing fees, and understanding the impact of inflation on investments. I also emphasize the merits of long-term planning and informed decision-making.

--
TAX CHANGES: Budget 2024

XEQT vs VEQT. Which ETF is better?

Add some STRESS to your retirement plan

Connect With Evan

Transcript

Speaker 1: 0:09

Hello and welcome back to the Canadian Money Roadmap Podcast. I'm your host, evan Neveld. On today's episode, we're going to go through a list of the 20 most common investing mistakes. These are all things that you can control, and so I hope that by going through these, you'll be able to prevent some of these and have a great investing experience, especially going into 2024. All right, today's episode has a lot of content here, so I'm going to get right into it. I got this idea from a website called visualcapitalistcom. They put together some awesome infographics and things like that related to the economy and business and all sorts of different things. This one they gathered together some information from the CFA Institute. The CFA's are chartered financial analysts. These are the big dogs of the investing world. It's a crazy designation to get. It's probably one of the hardest exams in the world to write. The CFA Institute is definitely a credible organization and they put a lot of research into the stuff that they put out. This document is called the 20 Most Common Investing Mistakes. I just wanted to go through them, maybe add a little bit of context or a little bit of color to those, especially for us as Canadians. I think they're all valuable things to be thinking about. Even though the number 20 maybe sounds a little bit overwhelming, they're all things that one needs to keep in the back of their mind or in the forefront of their strategy. Let's get going. Number one expecting too much is the number one mistake. I don't know if these are in any order, but anyways, here's the list. Expecting too much and so having unreasonable expectations of returns leads people to make all sorts of bad decisions with their money. If you're down in a given year but it's like, well, I was planning on getting 7% a year, it's like, okay, you have unreasonable expectations, that that means that you're going to get 7% every year. Expectations, depending on what you're investing in, can have a huge range of potential outcomes, but understanding the investment portfolio that you're in and the reasonable expectations that you should have in a 1, 3, 5, 10, 20 year period would be a really great place to start. They include a little bit of data here from what some professionals this is American, but what some professionals would say you should expect but also some survey data from what investors actually expect. So financial professionals assume a 7% rate of return, whereas investors on average, based on their survey, expect 15.6% per year. That's a huge, huge gap. That's not a difference of fees, it's not a difference of financial professionals being more conservative or things like that. It's just the real expectations of what's realistic, as opposed to thinking about what happened recently or relying too much on data that might be skewed towards an overly positive return Can spend too long on each of these areas. Number two having no investment goals. If you have an investment, you need to have a purpose for doing it, because making the pile bigger is not really a goal. If you don't have a reasonable goal over a long enough period of time, you're much more likely to make short term mistakes. If you are a short term investor, I wouldn't necessarily recommend you be invested in things like stocks and bonds because of the volatility that comes along with those things. So knowing what your investment goal is in the first place and building your portfolio to align to that goal is the strategy that you should be employing. So the mistake here is not having a goal in the first place. Number three not diversifying. Very, very, very, very, very common People get an idea of a certain stock that they want to own and that's all they can afford to buy. So that's all they buy, and then potentially, they don't have an outcome that they're particularly happy with. Even in a diversified situation where someone's using mutual funds or ETFs. Very often we see situations where someone will own all Canadian stocks or all US stocks, or someone that's too close to retirement and they don't understand the volatility impact of the portfolio that they've built based on a non-diversified approach to it. So not diversifying would be a mistake that is easily avoided and it's cheaply avoided, but is something that's all too common. Number four focusing on the short term. Going back to investment goals. If you have a long term goal say retirement or building a portfolio that's going to be your future income worrying about what happens in the market on a daily or even hourly basis is a complete waste of time and it leads you to making suboptimal decisions with your money. Interesting data point that they include here is that investors that had a short term view paid 50% higher transaction fees than people that had a long term view. And that just makes sense, because if you're looking at things over a short term basis and you get consumed about what happened today, yesterday, over the last week, month, year, and you're trading and making all these changes in your portfolio to try to mitigate those losses successfully, you are far more likely to pay more in transaction fees just because you're doing it more often. That makes sense, okay. So number five buying high and selling low. What is the opposite, you know, if you ask anybody what they know about investing, you say buy low, sell high. Turns out, people actually do the opposite, and you can take a look at this through data that tracks fund flows so you can see how much money is going into certain ETFs or stocks, or how much money is going into certain mutual funds every year. And, believe it or not, most of the flows happen after the biggest performance and most of the outflows happen after the worst performance. It happens all the time, all, all, all the time, even when people don't think they're doing it. It's very, very common to chase returns and so people end up buying high and selling low. This is the fear and greed tug of war that people end up playing, which leads to number six trading too much. That's kind of back to the focusing on the short term problem. Trading too much generally leads to under performance. The data that they include here says 6.5% was the amount that most active traders underperform the US stock market. So by you trading, thinking you're going to make tons and tons and tons of money, turns out you're probably going to lose to the index by the expected return of the index, which is crazy to even think about. The data is terrible on this, for for people that try to trade their own stocks, don't do it. It's just simply a mistake that is very, very unlikely to work in your favor. Number seven paying too much in fees. Fees can definitely impact the overall performance of your investment. A lot of people, especially here in Canada, compare that between ETFs and mutual funds as as a generalism. It's not true. There's lots of mutual funds that are really really cheap. However, the places where I see the most egregious fees are in things called exempt market securities. If you thought a 2% MER was bad, wait till you see some of the garbage that's out there, with millions and millions and millions of dollars going into these things. I won't get into exempt market investments here, but paying too much in fees is definitely a mistake that's avoidable, even working with an advisor. An advisor has opportunities to use low cost investment options too, so you can pay for a service, but you don't necessarily have to pay a whole lot for the investment management itself. Number eight said focusing too much on taxes. In my experience I don't want to say the opposite here it's like not focusing enough on taxes. Maybe this is a difference in the United States, based on how their their tax system works, because they have a system of capital gains tax that works on a short term and a long term basis, whereas we don't really have that distinction between the two here in Canada. So I'm not sure if I'll lean into this one too much, because I think taxes are really, really important. To focus on and understanding the plan types you have and the tax implications of each of your plan types, I think is really important. So maybe in some cases, maybe this is a regional thing depending on a tax system, but taxes might be something that people spend too much time worrying about, maybe not? I'm going to dodge this one a little bit. Number nine not reviewing regularly. So this would be a case. If you're a DIY investor and you are in a position where you need to rebalance your portfolio yourself, I would recommend that if you are in a situation where you're doing the rebalancing yourself, yes, you need to be reviewing your portfolio regularly to make sure you do that. However, I'm going to flip this on its head again. If you are someone that's in an investment fund or using an advisor or something like that, that the rebalancing is done on your behalf, reviewing your portfolio more often would be more of a mistake than anything. I find there's a direct correlation between how often people look at their portfolios and how worried they are about their money. It's just one of those things like the less you look, the better you sleep. That's often what I tell people. So if you are doing everything yourself and rebalancing yourself or you should be rebalancing yourself yes, by all means, you need to be reviewing your portfolio regularly. Number 10, misunderstanding risk. Absolutely, this goes back to number one of expecting too much. People misunderstand risk all the time, and I could spend hours and hours talking about this. But the big thing that people misunderstand is they say, well, I need to make a lot of money, and I want to make a lot of money. Isn't this investing? This is fun, right? So I got to take risk. I love risk. It's like no, no, no, two sides of the same coin here. If you have the opportunity to make more money over the long term, that higher amount of risk means there is a potential for that to be the opposite, and so you have to know that if you're taking a lot of risk, even being in a diversified portfolio if it's 100% stocks there's the potential for a lot of negative outcomes there. But at the same time, you know, taking too little risk means that you might not have the opportunity to reach your financial goals. Most people aren't able to out save the returns of their investments over their lifetime, meaning if you don't get enough return, then you just have to save more of your money to make up for the difference. Most people can't do that, and so this would be a misunderstanding of risk on being too conservative and not allowing the long term potential of the market to do its work. Number 11, not knowing your performance. This would be a good idea to take a look at, just so you have a general idea of what's going on. But also, I think, if you're going to be doing this, or if one is seeing this as a mistake, you need to have a reasonable benchmark that you're comparing it to. So right now, as I'm recording this, in November of 2023, pretty much anywhere you look the last two years, performance is going to be less than you'd think, because even though this year was a decent year so far for stock markets, last year was particularly bad, and so, over a two-year average, you might look at that and say, oh my goodness, I didn't make any money. But then, if you look at an index or a very low fee ETF that many, many people would be invested in, it's showing the same thing. So if you're in a fund that's meaningfully different from the index, you might have considerably better or worse investments. But if you don't even know that your investment is considerably different from the index, that's probably an issue too. And if your fund is reasonably close to the index, you should probably just own the index and save yourself on the fees. But not knowing your performance, I would add to this in the context of a similar benchmark. So if you're in a fund that's a balanced fund, meaning 60% stocks and 40% bonds or something like that, if you're comparing yourself to an index of 100% large cap US stocks, well, that is completely unreasonable. If your risk profile says that you should be in a globally diversified balanced portfolio and then you start comparing it to a very regional one factor, all equity portfolio, that doesn't make sense. So, not knowing your performance or not knowing your performance relative to something that would be reasonable for your risk profile. Okay, if you're with me on that one. So everything is relative. Number 12, reacting to the media. This goes in line with all the other stuff that relates to fear. So if you're seeing something in the news and you say, oh my goodness, I got to get out of here, that would be a mistake. Also, keep in mind, the stock market is a really cool mechanism that takes into the count the thoughts, feelings, hopes and dreams and fundamental financial data of everyone and every company that's in that stock market and the buyers and sellers. The market participants take all the information that they could possibly have and they buy and sell based on that. So if you're reading something in the news, believe it or not, everybody else already has that information. This is nothing new. So if there's a news article that comes out says a recession is coming, guess what? You're not the first one to think about that, and so I'm of the belief that the market prices already take into account all the information that is known, and the things that will move the market are things that are surprises. Take, for example, very recently, nvidia is one of the biggest companies in the world. They've had crazy performance this year. They make computer chips that AI companies use for processing all of these cool chat GPT like systems. So of course hype has driven these prices, the price of this company, up really, really high. I think it's up over 200% so far this year. And they just reported their earnings. So every company every three months reports their earnings and their revenue was something like three times higher than last quarter or something crazy like that. And guess what happened to the stock price? It went down because that was already baked into the price. It was assumed the company was forecasting like, hey, we're going to have these crazy sales coming up, so okay, we're going to bid the price up to where we think it should be based on the information that they're telling us. But now when the surprise comes in there's I don't even remember what it was, but there was some reasonable bad news in there or changes to the forecast and whatnot it's like, okay, that was new information, so actually we're going to bid this down a little bit and the price comes down accordingly. So a company can triple their revenue and have their stock price come down. How was that even possible? Because all of that information was baked into the price already. Anyways, don't react to the media. Number 13, forgetting about inflation. I bet you this data is old because everybody's thinking about inflation right now. But the way that this would come up for a lot of people is that when they see things like GICs or money market funds or high interest savings accounts paying 5%, they said, well, I could get 5% on my money and be just fine. Yes, potentially, but inflation over time. So those would be things that we would refer to as cash in general. I know they're not cash in like bills in your pocket cash, but that's just how we categorize cash. Cash historically has not beaten inflation by quite a wide margin, and so if there are periods of time where inflation and the returns on cash are kind of the opposite, so right now you can probably make more on cash than what the current inflation rate is that is exceedingly rare, and you shouldn't invest your portfolio as if that will continue forever, because what would happen Very likely is that when rates come down, the values of bonds and stocks are very likely up accordingly, and if you're only invested in cash at that point, you've now missed the boat and you're going to be buying higher, you miss out on the long term returns. Anyways, forgetting about inflation in terms of your asset allocation and being too conservative, that would be a mistake to avoid. Number 14, trying to time the market. This comes back to buying high, sell low types of things. Trying to time the market is just waiting for the next turnaround, based on all sorts of different things. It doesn't work. It's exceedingly difficult. Even if you've got massive volumes of data and computers that can run simulations and all these sorts of things, how do I know? Well, dimensional I've talked about dimensional before. They're a global investment firm that myself and many others work with for our clients, but they take a really data driven approach to building their portfolios, really evidence based approach, and so they thought okay, well, if we're going to do all this research, let's see if market timing works. And so their headline here from some report that they recently put out it says we found 30 timing strategies that quote unquote worked and 690 that didn't. So this is also looking in a back test. So this is looking at data, looking backwards, and so finding some strategies that work in a back test is reasonably doable. Looking at something that looks forward is extremely difficult. But even looking backwards, what they tried to do was come up with some strategies that were able to time certain investment factors of market size, value and profitability, and they were able to find a couple that worked out of hundreds that did not. And I'm just going to read this paragraph here, just before you get too excited. That's the first line here. Before you get too excited, let's take a closer look at how this best performing timing strategy worked, and what it did actually is first performance goes. This strategy beat the buy and hold market portfolio by 5.5% between 2001 and 2022. Okay, so before we get too excited, let's look closer. So I'm reading this. It says the strategy used the valuation ratio to time the market premium in the developed XUS markets. At the end of each calendar year, the strategy compares the current price to book ratio of the market with its historical distribution over the most recent rolling 10 year period. When the price to book ratio exceeds the top 20th percentile of its historical distribution, the strategy gets out of the market and invests in one month treasury bills. When the price to book ratio drops below the 50th percentile of its historical distribution, the strategy swings back to the market portfolio. If your head is spinning if you're trying to time the market. You're not doing this and let alone implementing this perfectly. Because is it actually important to do that perfectly as they're writing here? Yes, actually it does, because even tweaking one single parameter of the strategy, such as the rebalance frequency or the breakpoint, would reduce the excess return by more than half, making it no longer reliable. Furthermore, the same timing strategy is not effective at timing the market premium in other regions or other premiums in the developed X US markets Crazy. So this is like this weird anomaly of something that is so far advanced. No one is going to do it, no one has the capacity to do it and it probably won't work. If you try to do it and so, don't worry, people have tried you shouldn't bother. It's way better to pick an investment allocation that you can stick with and know the expectations going back to some of our previous mistakes Know the expected returns and so that when the bad ones come around, it's not a surprise. You're allowed to be disappointed, but you're not allowed to be surprised. So, anyways, don't try to time the market. Number 15, not doing due diligence. So this one is in reference to an advisor. Sure, that's a really good idea. Here in Canada you can look up an advisor's registration. So if they're trying to sell you investments, you can see if they're actually registered to do that and if they are a financial planner, you can look them up on FP Canada. And both instances in the first one you can look up your advisor on the NRD, the National Registration Database, and with FP Canada you can also look to see if they've had any disciplinary action against them for anything they might have done in the past. From time to time that can happen, where someone makes a mistake or they do something Wrong and they have their license suspended for a certain amount of time. That data is public and stays with them. So you can do your due diligence on who you're working with as an advisor and see what kind of history they have in terms of complaints or things like that. So that goes into number 16 is working with the wrong advisor. So if you are curious about working with someone in a professional engagement, there are plenty of us out there working with different types of people with different types of services, and you don't have to get stuck in a situation where you're either uncomfortable or they're not qualified or they don't provide a service that you're actually looking for. So working with the wrong advisor yeah, that'd be a mistake. That said that you can reasonably avoid. 17 investing with emotions. It's hard to be a robot, let's be honest. It's really hard, but the data on this is bad. You know, like when you feel something about your money and you make a decision, it's like I just got to get out and stop the bleeding or I'm going to wait for the dust to settle to get back in. A lot of these come back to similar types of mistakes of trying to time the market and those kind of things. Investing with emotions can actually lead to a real loss in returns. Their data here says 3% annual average loss in returns due to emotionally driven investment decisions. That's huge for a Canadian in a globally diversified portfolio. That's almost half of your expected annual return from a stock portfolio. So if you can avoid making investment decisions with your emotions, you would be well served by that. 18 chasing yield. This one could be taken a few different ways. I'm going to look at it from dividend yield. There's a lot of people that are dividend investors. If you are, you can go back and listen to my episode with Mark McGrath about some some myths or misunderstandings about dividend investing. This is where we often see chasing yield as a problem, especially when it comes to products like covered call ETFs or things like this, where it looks like the yield is extremely high. That does not mean that the expected return on the investment is really high, because your total return is a combination of price movement and yield dividend yield and people often forget about that pesky movement and price, because if you have a 5% yield and your stock price drops by 10%, guess what? You lost 5%. So chasing yield would be a mistake. Worry about total return more than anything, because that's what actually matters. Number 19 neglecting the start. I would totally agree with this one. Just like anything in life any little project or starting a podcast or YouTube channel or something like that Getting started is the most important thing, and then figuring out details and optimizing later is totally doable. But you can't optimize and you can't make things better if you haven't started in the first place. In this case, when it comes to investing, starting allows you to take advantage of compounding in the future, and so that the old adage of time in the market is way more important than trying to time the market. They give a pretty cool story here that says consider two people investing 200 bucks a month, assuming a 7% annual return until the age of 65. So if someone starts at age 25 in this hypothetical scenario again, this is not a guarantee, this is just a hypothetical scenario If they start at 25 they'd have a portfolio of $520,000, but if you start 10 years later, the portfolio gets cut in half 245,000. So the difference there of 10 years, 200 bucks a month, 7% per year the time is the difference in these two cases really, really important. Just to get started, number 20 not controlling what you can. No one can predict the market. You can't control returns. You can't buy yesterday's returns, and so, by thinking about some of these other mistakes that you could possibly make, these are all things that you can control Right. You can control your asset allocation. You can control which advisor you work with or not. You can control what investment plan types you use, depending on which ones are appropriate for your situation. But controlling that makes a difference. You can control what you spend reasonably. There are plenty of things that you can control, and a lot of these things are the difference between someone that has success with investing and someone who doesn't. So these were the 20 mistakes that the CFA Institute have said are some of the top ones. I will summarize here quickly expecting too much, no investment goals, not diversifying, focusing on the short term, buying high and selling low, trading too much, paying too much in fees, focusing too much on taxes. I would say the opposite. Not reviewing regularly, misunderstanding risk, not knowing your performance in context of your appropriate benchmark, reacting to the media, forgetting about inflation, trying to time the market, not doing due diligence, working with the wrong advisor, investing with emotions, chasing yield and neglecting to start and not controlling what you can. Let me know what you think. Are there any that didn't make this list, that you have found in your own life or anything that you've seen before? Send me an email podcast at evan newfieldcom if you like this episode, if you like any of our other episodes. A quick note if you're leaving a comment on a Spotify podcast, I can't respond to those. There's no mechanism for me to actually respond to them. So if you want to send me a note that I can actually respond to, just send it to me in an email. Again, that's podcast at evan newfieldcom, and I'll do my best to reply to as many emails as I can, but if you're on Spotify and you want to leave a public note on a episode that you like, I can make those public. If you're on Apple podcast and you want to leave a review, that would be greatly appreciated. I've had lots of great reviews recently and a bunch of ratings and, yeah, I've got a lot of five stars out there, as I'm really humbled and I really appreciate all of you for listening and for all the kind feedback that I get on the podcast on a regular basis. Thanks so much for listening today and I'll see you next week. Thanks for listening to this episode of the Canadian money roadmap podcast. Any rates of return or investments discussed are historical or hypothetical and are intended to be used for educational purposes only. You should always consult with your financial, legal and tax advisors before making changes to your financial plan. Evan Newfield is a certified financial planner and registered investment fund advisor. Mutual funds and ETFs are provided by Sterling Mutuals Inc.