MARKET COMMENT
Why People Lose Money In The Stock Market

By Stuart Watson (TMFTiger)
April 12, 2002

Many people lose a lot of money in the stock market. Why? They don't have a real plan or strategy and they don't appreciate the rules of the game. Consequently, many drop investing altogether and may only return when the market hits its next temporary peak, ready to be shaken out again a short time later. Many may never return at all. It's the classic case of buying near the top on the promise of ever-rising prices and selling at the bottom because all the market ever seems to do is go down. This has happened many times before and it will happen many times in the future.

Know the rules

There are only a certain amount of gains to be made in the market. Say it is valued at £100b today and will be valued at £150b in five years' time (it could be less or more, of course). The gains of £50b have to be split amongst all the market participants. Brokers and market makers will take their share. Those who hold for the long-term and whom hold their investments throughout take theirs. That leaves relatively little for those who want to trade in and out of the market. Some of these people will be big winners -- some will be big losers. The net gains of this group, however, will be relatively small and are certainly likely to be lower than the total gains made by the market as a whole. Those that win have to be good or lucky (or preferably both).

Know who you are

Are you prepared to get your hands dirty and crunch some numbers? Are you prepared to take a view of the prospects of a business? How much time do you have to conduct research? How often can you monitor the progress of your investments? Do you tend to follow the latest opinions or are you most happy drawing your own conclusions away from the crowd? All these factors (and more) will dictate what sort of strategy suits you best and which ones you should avoid.

Know where you are

What's your overall financial position? How much can you afford to invest, or do you need to get out of debt first? How much do you know about finance and investing? Should you find out more before you take the plunge? Perhaps you need to practice with a notional portfolio before risking your own money.

Know what you want

What are you trying to achieve by taking part in the stock market? If you're simply looking to make as much money as possible in as short a timeframe as possible, you're asking for trouble. The higher you aim, the further there is to fall if you miss the target. A strategy that offers the prospect of higher returns is also likely to have a greater variation of possible outcomes. The average expected return may even be less than a lower-risk strategy. Over the long-term, matching the stock market average is no bad thing, especially when you consider how few people actually attain this goal.

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