When hunting for the best shares to buy, simply picking out my favourite companies isn’t enough. I also work hard to avoid making some basic investment mistakes.
Tim Bennett, head of education at investment firm Killik & Co has drawn up a list of the top errors investors make. Here are the five I focus on.
Failing to diversify stocks
I used to pack my portfolio with the best shares I could find to buy at any given moment. Now I’m more preoccupied with striking the right balance. As Bennett points out, no company is immune to single stock risk. Up until 2010, oil giant BP was the largest UK stock and biggest dividend-payer. That ended with the Deepwater oil spill. No firm is too big to fail, so I spread my money around. However, even the most diversified portfolio isn’t shielded from a widespread market crash.
Being ruled by emotion when buying and selling
I try to keep a lid on my emotions when deciding the best shares to buy, but it isn’t easy. That’s one reason I avoid investing in penny shares, as even small movements can have a big impact. I also try to avoid shares that have raced ahead of the market, for fear of jumping on the bandwagon too late in a desperate bid to play catch-up.
Setting limits on the best-buy shares
I used to think setting up stop losses was a great idea. If the stock rises, you keep all your gains. If it falls, you limit your losses. The only time I did it, my stock fell sharply, triggering the stop loss, then rebounded even faster, by which time I was locked out of all its gains. Never again.
Choosing what I think is one of the best shares to buy then setting up a market order to sell once it hits a target price also seems odd. Why set an upper limit on my potential gains?
Letting others decide the best shares to buy
This is a tough one to avoid. Everybody has the herd instinct in them. It’s a necessary survival strategy, but doesn’t work so well when looking for the best shares to buy. By following the crowd I’m likely to repeatedly buy high, then sell low.
As US billionaire investor Warren Buffett famously made clear, I need to do the exact opposite by being “fearful when others are greedy, and greedy when others are fearful”. But that’s easier said than done. And if everybody adopted that strategy, he would have to reverse his mantra.
Getting stuck on old data
Investors can be prone to latch on to past data points that no longer reflect market conditions, Bennett notes. I’ve done that myself, after choosing one of the worst shares to buy rather than the best, grimly hanging on in the hope I can claw back my losses. These days, I’d rather sell and seek better opportunities elsewhere.