Common Investing Mistakes

The following common investing mistakes should be on every investor’s radar. Investing can allow investors to amass wealth effectively, save for retirement, and beat inflation. Investment failures are inevitable, but with a common-sense strategy, investors can minimize the effects of stock market downturns.

The temptation to take risky gambles for the chance of earning outsize returns has been the downfall of many a savvy investor. As you embark on your investing journey, keep in mind that the following trading mistakes can result in catastrophic losses.

Mistakes to Avoid in Investing

Warren Buffet, The Wall Street Journal, and decades of research on investing outcomes identified the following common investing mistakes.

Failing to Diversify Your Portfolio

A lack of diversification may be one of the most damaging – but easily missed – investor mistakes. With too many investments in a particular asset class or sector, the portfolio will most likely suffer. Diversification mitigates risk by picking a variety of investments. Index funds that track the top securities listed on a particular exchange can help add diversification. So do different asset classes, like bonds and commodities.

If a financial professional wants to place a large percentage of your portfolio in a particular investment, consider that the recommendation might come with a substantial commission for your broker or investment adviser. Overconcentration is a violation of securities rules and regulations.

Verify the Risks Associated with an Investment

Investors have accidentally purchased high-risk investments simply because they did not understand the investment. Every investment in a publicly traded company comes with a prospectus that describes how the investment will work and the risks involved. If you are working with an investment adviser or a broker, they are obligated to only recommend investments to you that fit your risk profile. Many investors have lost money because their broker misrepresented the risks. Double-check their description of the investment by reading the prospectus.

If you do not understand how an investment is supposed to make money after reading the prospectus, do not agree to invest. Complex investments typically come with higher risks for investors and are often mistakes in trading for retail investors.

Stock Picking

Stock picking is one of the most common mistakes people make when investing. Instead of choosing a low-cost fund, investors pick individual stocks based on their research or gut feelings. Experts warn that this strategy almost always results in worse returns than investing in exchange-traded funds or index funds that rely on returns from a wide variety of securities.

Panic Selling

In a similar vein, another one of the most common investing mistakes is panic selling. Fluctuations in the stock market are to be expected. If investments lose money, investors should not panic and rush to sell. Holding an investment for a longer period may allow the stock to recover. If you sell when prices drop, you are locking in the loss.

Taking Stock Tips from Social Media

Social media is a hotbed for fraudsters pushing scam investments such as pump-and-dump schemes and cryptocurrency scams. Before you take advice from an online source, FINRA suggests you ask the following questions:

• Is the “finfluencer” a registered financial professional? If so, you can look them up on BrokerCheck using their Central Registration Depository number.
• How much risk is involved? Does the investment use leverage? Leverage, a.k.a. borrowed money, can amplify an investor’s risks for losses.
• Can you afford to lose your investment? Do not invest more than you can afford to lose.

Emotional Investing

It is easy to get swept up in popular investing trends, or in new companies that seem especially promising. Try to ignore hype – there are plenty of recent examples of seemingly exciting investments that suffered big losses. For instance, shares of pharmaceutical companies that were big names during the pandemic have sharply declined in value as demand for vaccines has waned.

Trading without a Strategy

Overall strategy is as important as the actual stocks. Investors should have a clear idea of their financial objectives before they begin investing. Young investors, for instance, may want to take on more risk – riskier investments come with the opportunity for bigger gains, and younger investors have more time to recover from losses. Older investors should choose more conservative investments that offer tax advantages for retirees and potential benefits for beneficiaries.

Following Investment Trends

Short selling gained traction in 2020 thanks in part to the boom in retail investing. When investors short a trade, they are placing a bet that the stock price will go down. Short sellers suffered a tremendous collective loss of $195 billion in 2023.

Failing to Review Account Statements

Investors may feel they can rely on their financial professional to recommend investments that fit their financial goals. To many an investor’s dismay, however, financial professionals are often swayed by the large commissions attached to risky investments. Investors can catch these unsuitable investments sooner by regularly reviewing their account statements. There is a six-year time limit for filing complaints following misconduct, so it is in investors’ best interests to catch fraud and broker misconduct.

Reviewing account statements can also catch trading errors, which might include a broker failing to execute buy or sell orders as instructed.

High Turnover of Investments

Selling investments and buying new investments too quickly can cut into returns. Investing portfolios take time to generate a return. Trading too often can also rack up transaction fees that cut into the portfolio’s overall return. “Excessive trading” is a type of broker misconduct that violates FINRA regulations. If a broker engages in excessive trading, investors may be able to recover by pursuing FINRA mediation or arbitration.

Mis-Allocating a Retirement Account

Unscrupulous brokers have convinced investors to place their 401(k)s in high-risk investments. Do not put your nest egg at risk to simply line your financial advisor’s pockets – this is one of the most devastatingly common investing mistakes, especially for elderly investors.

Opportunity Costs

Investors who buy illiquid, long-term investments take on a risk called an opportunity cost. Non-traded REITs and collateralized loan obligations (CLOs) are two examples of investments that are speculative, risky, and come with maturity dates that make it difficult to cash out. Aside from the risk that an investor may lose their entire investment, the long-term nature of these investments prevents investors from buying better investments in the meantime.

Ignoring Fees and Commissions

Certain investments come with “trailing commissions,” which are ongoing payments to brokerage firms that cut into your return. Look out for “management fees” and “markups” – both names for commissions.

Depending on what type of mutual fund you purchase, you might pay a front-end load or a back-end load – sales fees that are paid either when the investor purchases the mutual fund shares or when they sell. Investors may be entitled to breakpoint discounts when they buy shares of a mutual fund class that they already own. Failing to inform investors of breakpoint discounts is a violation of FINRA Rule 2342.

Make sure to ask your broker how they make money, and what conflicts of interest they have when they recommend investments to you. In some cases, your broker may be able to give you a discount. Always ask if there are discounts available. Your firm’s Customer Relationship Summary (Form CRS) should tell you if your broker is allowed to offer discounts. 

Blindly Trusting a Broker or Investment Adviser

Do not rely on your financial professional’s understanding of an investment. Certain investment contracts are so complicated that even financial professionals would struggle to explain how they work. Furthermore, your broker or adviser may have a conflict of interest. They could receive a commission for selling particular investments, or their firm might offer bonuses for reaching certain sales goals.

Not Reading the Fine Print on Similar-Sounding Investments

Certain bonds, like those issued by the U.S. Treasury, are considered some of the lowest-risk investments on the market. The same goes for Certificates of Deposit (CDs). But there are investments with similar names that have far greater risks.

• Junk bonds, like the L-bonds issued by GWG Holdings, come with tremendous risks.
• High-yield corporate bonds are risky investments that depend on the far-from-guaranteed success of the issuer.
• Brokered Certificates of Deposit are not sold by a bank but by a broker. These types of investments may be callable, meaning the issuer may redeem it before the maturity date. Brokered CDs may also come with fees that regular bank CDs do not.

Buying Investments with Conflicting Features

Investors should make sure they understand all the optional features that might accompany an investment. Brokerage firm H. Beck (also known as Grove Point Investments) consented to a $400,000 FINRA fine following allegations that its representatives sold variable annuities with conflicting features. The variable annuities were L-class shares, relatively short-term investments that are only meant to be held for three to four years. H. Beck brokers allegedly combined these with Guaranteed Minimum Income Benefit Riders, which only take effect after five years.

Picking Stocks Based on Reputation

Well-known names in the financial industry should not influence your decision to buy or sell. Investors who followed Elon Musk’s exhortation to purchase Dogecoin have not enjoyed the return on their investment that many Reddit posts promised. As of posting, Dogecoin trades for $0.08. At its height, the coin was worth $0.74.

Even the most experienced investors can make expensive investment mistakes. Carl Icahn, a highly respected, shorted GameStop shares in 2021. After prices shot up thanks to the Reddit-driven meme stock craze, Icahn’s hedge fund lost $1.3 billion.

Similarly, big-name brokerage firms and investment advisory firms are not necessarily the most reliable. Morgan Stanley, JP Morgan, Wells Fargo, and Merrill Lynch have all faced regulatory fines for allegedly failing follow securities industry rules. In certain cases, these failures have allegedly led to significant losses for investors.

Use of Risky Leverage

Margin investing is often a mistake in trading strategy, especially when investors cannot afford significant losses. Margin accounts borrow money from a brokerage firm to buy more securities. These types of investments amplify the investor’s risk for losses. Plus, margin loans charge interest, which cuts into any returns an investor might generate.

Failing to Implement Stop-Loss Orders

If you decide to take a risk on a stock, you may want to at least implement a stop loss order. A stop-loss order is an order to sell a stock once it drops to a certain price. These orders allow investors to limit their potential losses on investment failures.

I Made an Investing Mistake. Now What?

If you lost money due to poor investing advice from a stockbroker or financial adviser, consider consulting with a securities attorney. Brokers might misrepresent an investment’s risks or potential for returns or recommend an investment with far too much risk. Any type of investment that comes with more risk than you can afford should not be in your portfolio.

Contact our securities attorneys for a free case evaluation. Our New York investment fraud lawyers work on contingency, which means they only earn a fee if they win your case. Call (877) 600-0098 or email info@kurtalawfirm.com.