Investing can be tough. It’s no secret that most DIY investors under perform the market and would likely be better off investing in index funds. For those that want to go at it alone, like me, there are some things that can be done to improve your investment skills.
It is important to point out that trading and investing are too different things. Chasing fast money is not investing. Investing is what we do when we put our hard earned money to work and expect it to produce cash flow and a return on investment. Using a long-term approach takes a lot of the risk and chance out of the equation.
Create a strategy
Each investor needs to have their own strategy to keep them from chasing wild investment ideas or going outside of their plans. There are a few places to start when devising your strategy. Most people are either stock pickers or fund/ETF investors. Some like me have blended style where most positions in their portfolio are stocks but they use ETFs to gain exposure to certain industries where they do not want to pick individual names.
Using funds provides a lot of simplicity but also comes with increased management fees. An investor could easily look up what stocks any fund owns and buy them directly to avoid the fees. This sounds like a smart idea but it will be up to the individual investor to be sure they are staying on top of each investment in the portfolio. That is what fund managers get paid to to.
Setting time horizons is also very important. Before buying a stock I always determine how long I plan to hold it. That helps me continue to hold the stock even if macro environment events temporarily push the stock price down. If I know I plan to hold the stock for 5-10 years then I really don’t need to worry about what it will do tomorrow. Most of my portfolio is made up of dividend stocks.
If you plan to hold a stock for only a week or a month then current events are very important to you and your success.
Stick with what you know
Investing in companies that you know and understand is a principle that Warren Buffet has held to and it has worked out really well for him. I can’t imagine buying a company in my town if I didn’t understand how it worked. If I did that it would be a very risky investment because I would not understand what the most important factors are for it to be successful or how competitors could threaten our business. In that situation, an owner would always have to trust other people’s opinion.
Buying stock in a company is the same way. If you don’t understand what the business is then it is probably not a good investment for your portfolio.
Invest in the best
One of the keys to creating a successful portfolio is diversification. Staying diversified helps us to ride out economic storms that impact a particular industry. Most investors can create a well-diversified portfolio with just 30 stocks. In this situation, many investors will find themselves looking for a company that will represent a particular sector for their portfolio. Always choose the best of the breed.
For example, if you had to choose between Lowe’s and Home Depot. Both companies do just about the exact same business, however, both companies are not created equal. One may be trading at a slightly cheaper valuation but that does not mean it is the better company or that it will increase in value as much as the other over the next 10 years. Most of the time it is wise to choose the best company with the best growth potential.
Ignore the noise
Short term traders are dialed in on the noise because news, headlines and current events are what drive the up and down swings day to day. Long-term investors like myself are not concerned with this noise unless it becomes a real event that could impact the long-term profitability of a stock I own. It is easy to get caught up in the latest happenings over at CNBC or when reading an article on Yahoo Finance. Those are all fine and have their place but we can’t let them take us away from our plan. Sometimes you just have to ignore the noise.