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3 investment rules I live by

Investing is often made out to be a hideously complex thing that only high-charging professionals in the city are able to do. Fact is, many regular people are capable of growing their wealth with a bit of research and by remembering a few fairly basic rules along the way. 

Here are just three of the latter I like to keep in mind. 

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1. Nothing lasts forever

Without wishing to get your week off to a bad start, it’s worth remembering that everything we know is always in a state of flux and nothing is permanent. This is particularly true in the stock market.

Now, bar the odd wobble, markets have only gone in one direction since the financial crisis. They might continue going higher for a while. 

At some point, however, everything succumbs to gravity. We might not know what the cause will be (or when it will happen) but this is not as important as recognising that corrections and bear markets are to be expected not feared.

It’s also why, if you’re a passive investor, it can make sense to invest the same amount of money on a regular basis rather than all in one go.  

Gravity applies to individual companies as well. That wonderful growth stock that just simply won’t stop going up in price? It’ll come unstuck, even if only temporarily.

This might happen even if profits continue rising and simply because the weight of expectation has become too great. It’s the equivalent of scoring an ‘A’ in an exam when a teacher or parent was expecting an ‘A*’.

Sounds harsh? Thankfully, there’s a flip side to all this.  

2. The market has a habit of over-reacting

The fact that the good times won’t last forever also applies to bad times. And when the proverbial hits the fan, that’s usually the time we should be buying stocks.

Unsurprisingly, market participants have a habit of getting rather het up when prices drop. Research in the field of behavioural economics shows that losses feel far more painful than gains feel good. 

In time,  things recover. When there is no one left to sell, no stock gets sold. Cue buyers. Cue a rise in prices. It’s all down to something called ‘regression to the mean‘ or the tendency for things to even out over time.

The market may have trouble seeing this in the short term, but after a while — and by ‘a while’ I’m talking months, sometimes years — things will revert back to their true value. 

3. If everyone agrees with you, do the opposite

We’re social animals. We like it when people agree with us or praise things we’ve done. That’s all fine unless we’re talking about the stock market.

Buying stocks that everyone loves feels good. Buying stocks everyone wouldn’t touch with a barge pole? That’s not quite so comfortable but it can be far more lucrative. 

An established finding in investing has shown that the cheapest shares (those that the market is either uninterested in or hates) collectively give better returns than those with lofty prices over the long term. 

As to be expected, however, achieving this outperformance requires a whole lot of patience on the part of the individual.

That’s in short supply, of course, and that’s why being a contrarian can work wonders for your wealth. 

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Paul Summers has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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