Sometimes individuals who speculate in stock are like gamblers in a casino. They tend to overinflate their wins and minimize their losses. The pain of loss may be acute, but they quickly forget all about it because they’re sure the next big win is around the corner. They believe their optimism is justified. After all, every stock they speculate in has a great story. And once they buy into the story, they just have to buy the stock.
Adding to the “everyone can be a successful investor” message the online trading platforms can make it too easy for young, inexperienced investors to speculate on stocks and even worse, open an options account. When all it takes is clicking a few computer keys, you can be a lot more impulsive than if you had to save money, send in a check, and talk to a broker (who might talk you out of the trade). I’m seeing this behavior more and more, not among clients, but among their children. I warn our firm’s new trainees not to act like traders. If they ever visit a big Wall Street firm, they’ll realize they don’t have the information the professionals do, and it’s unlikely they are to see anything the professionals haven’t seen. It doesn’t mean they can’t be successful traders, but it’s doubtful they’ll make a successful trade based on “new” information.
There’s a big difference in the way speculators and long-term investors approach investing. Emotions rule when individuals trade for short-term profits and expect to hit the ball out of the park. Contrast that with a long-term investor who’s methodical, has done careful research, and may expect to own a stock for 5 to 10 years.
You’d be hard-pressed to find a speculator who is buying JP Morgan, P&G, or other century-old companies. Newer investments like cryptocurrency and start-up companies are glamorous, as is trading in gold. Speculators sometimes fall prey to tax schemes when they believe they can make a profit as well as save on taxes. They feel like they’re getting away with something. It’s a great feeling until the scheme backfires and they wind up in big financial trouble.
As a general rule, speculators tend to buy more shares of a stock they already own as its trending down in price. The same is true for a stock they’ve lost money on. Why? They believe there’s a higher probability they’ll win the next time. Don’t get me wrong, sometimes averaging down or buying back a stock makes sense. It’s the mentality that should be questioned.
Occasionally, I’ll meet with older individuals who are willing to take significantly more market risk because they’re behind in their savings. They are conservative long-term investors who suddenly want to speculate and are optimistic about making a big profit. If they ask for my opinion, I share my philosophy: the way to keep most of your money is not to make mistakes. And you’re more likely to make mistakes when you chase a big return. I find my clients are better off settling for a long-term, no drama strategy instead of experiencing high returns some years and losses in others.
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One last thought, when everyone is talking about a hot new investment, I tend to walk the other way. I am optimistic that for most investors slow and steady will win the race.