Sticking to the Plan

Determining an investment strategy and carefully selecting the right mix of assets for your portfolio are important first steps in your investment journey. However, equally important is sticking to your plan – which can be easier said than done when markets are volatile.

To help you stay on course, here we outline some mistakes many investors make, along with tips on how to avoid them.

1. Fixating on ‘losses’

Share market downturns are normal and most investors will endure them – quite likely several times during their lifetime. When markets fall, it can be easy to focus on the decline in the value of your investment portfolio. However, it is important to remember that one thing is for certain – over the long-term, markets go up.

The following chart shows the value of $10,000 invested in Australian shares from January 1990 to April 2020 as measured by the S&P/ ASX All Ordinaries Accumulation Index.

An investor who stayed on course and held onto their investment over this 30-year period would have seen their investment grow to around $125,000. An investor who fixated on losses, however, would likely have sold assets at the worst time – during a market downturn – locking in the lower selling price and missing out on the gains on offer when the market recovered.

Source: Bell Direct

2. Reacting to market noise and announcements

As an investor, it is natural to want to keep up with market news. However, behavioural finance – the study of the influence of psychology on the behaviour of investors – shows us that following the 24/7 news cycle too closely can affect our ability to make good decisions.

Tuning out the market noise is a skill but investors who can stay focused on their long-term goals and regularly review their portfolio in line with those goals are often rewarded when the market corrects.

For example, on the day Brexit was announced the UK market saw a sharp fall. However, two weeks later it was back up above pre-announcement levels. This example shows that the best course of action is often to assess major market news, review your portfolio and decide not to make changes.

3. Over-reacting or missing an opportunity

In times when asset prices are falling, investors often feel a range of emotions – from uncertainty to despondency and even panic. This can lead them to make the common mistake of selling riskier assets like shares, potentially at a loss, and moving to fixed income investments or cash. Or they may embrace the familiar, perhaps moving from international to domestic shares.

However, history shows us that after a market fall, some of the best days on the market happen in the early days of a recovery.

This next chart shows what could happen to a portfolio made up of 70% stocks and 30% bonds invested before the global financial crisis back in 2008.

The investors who stuck to their plan and rebalanced the portfolio in line with the initial asset allocation was rewarded with the best long-term returns (123%). The investors who moved from their goals and sold their stocks to invest in the perceived safe havens of bonds or cash earned much less (86% and 34% respectively).

The key message: it’s normal for markets to go down and sticking to your long-term plan often yields the best results.

Source: Morningstar

4. Trying to pick the market top or bottom

It’s fair to say that most investors would love to have a crystal ball that can predict when a market will bottom out, signaling exactly the right time to buy shares, or reach its peak, signaling the right time to sell. However, even the most experienced fund managers can’t pick market tops and bottoms – and guessing wrong can cost dearly.

A solution to this issue is dollar cost averaging, which involves drip feeding your savings into your chosen investment at regular intervals over a period of time, instead of investing all your money in one go.

Dollar cost averaging reduces the risk of incorrectly picking the bottom of the market and removes the emotion from your investment decision-making.

However, it is not a substitute for identifying good investments, so you will still need to do your research to ensure you are investing in stocks that are right for you before undertaking such a strategy.

5. Failing to rebalance your portfolio

Another common investing mistake is failing to rebalance a portfolio in line with your investment strategy.

As an example, let’s look at an investor, Jess, whose strategy is to hold 70% growth assets such as shares and property, and 30% defensive assets such as cash and bonds. If share and property markets fall and bond markets rise, Jess could quickly find herself holding 60% in growth assets and 40% in defensive, making her portfolio more conservative than she intended.

Having an asset allocation that is out of sync with her long-term investment strategy could mean Jess misses out on market gains when they occur. Remember, a bad year in share markets is often followed by a good one.

In order to rebalance her portfolio, Jess would either need to sell some defensive assets and purchase some more growth assets, or, invest more into growth assets from her savings. This would ensure she is sticking with her long-term strategy.

You can choose to rebalance your portfolio at set time points (quarterly, semi-annually or annually) or after a certain event, such as a fall in the share market, when you may wish to take advantage of cheaper share prices.

We recommend rebalancing at least semi-annually, to avoid the risk of your portfolio becoming out of kilter with your long-term plans.

It’s important to note that of all the investment decisions you make, asset allocation has the biggest impact on your overall portfolio return. By ensuring you maintain the right balance of asset classes, you can put your portfolio in the best position to ride out market volatility and changing economic conditions.

Summary

Mistakes are part of the investing process – and they are very common! Knowing what they are and how to avoid them will help you succeed as an investor.

To avoid committing the mistakes we have listed here, develop a thoughtful, systematic plan and stick to it – then watch your portfolio reap the benefits over the long term.

Remember Bell Direct’s investment principles from part one of this series:

1. Focus on an investment goal
2. Decide on a timeframe
3. Keep costs low
4. Diversify

Top three take outs

While it can be difficult, sticking to your investment plan and goals is the best way to grow your wealth

Think with a long-term view and don’t be distracted by short-term volatility

Mistakes are easy and common so don’t stress if you’ve made some – we all have! Chalk it up to experience, positioning you for a simply better future

Important Disclaimer- This information is for educational purposes only and is of a general nature. It has been prepared without consideration of your specific financial situation, particular needs and investment objectives. This information does not constitute financial advice and you should consider your own financial circumstances in assessing the appropriateness of this information.