I first starting investing in 1986-87 by tentatively buying shares in large FTSE 100 companies. Being young and foolish (alas, with a small ‘f’), I made many errors and mistakes. If there was any way to lose money, I surely found it. More than 35 years later, I’m a lot older and a little wiser. Today, my strategy is to preserve my family’s assets by getting rich slowly, rather than quickly. Here are four bone-headed mistakes I’ve made in the past that I aim to avoid today.
1. Concentrating too hard when buying shares
One shrewd old sage once said, “Never risk what you can’t afford to lose”. In other words, investors should spread their money around. When buying shares, it’s very unwise to keep your nest eggs in too few baskets. This is known as concentration risk — and it can be deadly. Many years ago, one stock I heavily invested in crashed to zero, generating a 100% loss. This cost me several hundred thousand pounds. Ouch. Today, by investing across different stocks and asset classes, I’ve dramatically reduced the risk of blowing up my family portfolio.
2. Levering up when buying shares
In the past, I have employed leverage to enhance my returns when buying shares. Leverage involves using borrowed money or financial derivatives to boost gains. While leverage can greatly magnify positive returns, it does the same for losses. Thus, when I’ve been wrong while using leverage, it’s been brutal. For example, I once bought a big block of shares using a 40% deposit, while borrowing 60% from my broker on margin. When the share price plunged, I got wiped out and had to pay a margin call for tens of thousands of pounds. As a result, I have avoided using leverage for many years.
3. Catching falling knives
An old City of London maxim states, “Never catch a falling knife”. In other words, don’t rush into buying shares in a company just because they collapse one day. As often as not, there is a very good reason why individual stocks go into free fall on given days. In my experience, buying shares that plunge suddenly is very much trial and error. Sometimes it works, sometimes it doesn’t. A share price that has crashed by 80% can still fall another 80%, especially when a company is failing. Today, before I buy a nosediving stock, I make darn sure there’s still a solid business behind it.
4. Missing out on dividends
Some (but not all) UK companies pay dividends to their shareholders. These regular cash pay-outs are one reward for being part-owner of a business. Typically, these cash payments are made quarterly, half-yearly, or yearly. However, dividends are not guaranteed and, therefore, can be cut or cancelled without notice. Most London-listed companies don’t pay dividends, although most FTSE 100 firms do. Here in the UK, history shows that reinvested dividends can account for around half of the long-term returns from buying shares. Therefore, I have come to rely on dividends to provide a large slice of my future returns. These days, my family portfolio generates plenty of passive income to reinvest into more stocks — or spend, of course!
