How Smart Investors Blow It

by Stacy Francis, CFP®, CDFA

Going back to the early 2000s, our friends at Dalbar have been conducting a study to determine whether investors’ investment decisions impacts their investment performance. Unfortunately, it does. In a BIG way. As with every year’s study so far, the results illustrate a big difference in what the S&P 500 gained versus the average equity mutual fund investor. The results of the twenty year numbers ending 12/31/10:

S&P 500 – 9.14%

Average Equity Mutual Fund Investor – 3.27%

Greed and fear often lead investors to bad decisions. In the tech bubble of the late 1990s, investors poured their money into technology stocks for easily gotten gains and took risks they should have avoided. We all know what happened soon after. The tech bubble burst and fear clouded the judgment of tech investors as they dumped these stocks like hot potatoes and a few even avoided owning stocks at all. Many individuals are still trying to recoup the losses they sustained and have the majority of their money in savings accounts and the like.

Fear and greed are natural human emotions. However, when it comes to investments these emotions often cause us to make decisions that are not in our best interests over the long-term. Investment decisions should be made with clarity and conviction. The best way to do this is to create an investment plan. You need to decide upfront what percentage of your money should be in stocks versus bonds, and within stocks, how much in large companies versus small companies and how much in growth stocks versus value stocks. You should also be sure to invest in international and domestic stocks.

Once you decide on how to divvy up your money, you should never change your plan unless your objectives change and you are going to need the money in the next three years. Examples of a shift in objective could be a home purchase or you are nearing retirement.

Many investors are burned because they make an investment and forget about it. Be sure to rebalance your portfolio every year. Why do you need to do this? If you are hoping to have a break up of 40% bonds and 60% stocks in your portfolio you need to check that you have the same percentages. It is natural that stocks will grow faster than bonds over the long-term. Most likely you will be over weighted in stocks in several years if you do nothing.

We all should be disturbed and moved to action by Dalbar’s findings! Start an investment plan and stick with it. Monitor your investments on an ongoing basis and don’t be scared to get help if you need it.

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