The single solution to all our biggest investment mistakes
Monday 3rd August 2015
Written by Will Brambley
The Express recently discussed the biggest investment mistakes and how to avoid them. The advice is largely good, but is far more complicated and effortful than investing needs to be. For the few people who want to actively manage a varied investment portfolio it’s worth reading and considering. For everyone else arguably there’s little need to go beyond one method to avoid all pitfalls: buy a low-fee, diversified tracker fund, put money into it regularly and forget your online password.
As The Express suggests investors do tend to fall in love with assets, seeing them as winners and losers, leading them to buy high, hold the wrong ones, and panic sell after large stock market falls. They also often fail to diversify and ignore the huge impact of charges on returns. However much of this behaviour is hardwired into us. We’ve learned to copy what does well and stop actions that end badly as it works in almost all aspects of life. We’re programmed to react emotionally because it’s a useful short-cut in most decisions. With investments these can often send us off track, but reading an article is extremely unlikely to fix behaviour that works so well elsewhere, and that is so fundamentally human.
Even if we were able to overcome our hardwired behavioural traits, active investing takes a huge amount of time and effort. Professional investors are highly trained, highly paid people who spend large amounts of time working out which companies, currencies or other assets are likely to perform slightly better than average. If you want to beat the market you’re going to need that level of time and expertise to do likewise. For the vast majority of us it’s simply not worth it
One option is to get professional financial advice. If you have lots of money to invest this can be a great option. However financial advice normally isn’t free, thus usually only making this cost effective for those with tens or hundreds of thousands of pounds to put away.
Neither active investment nor financial advice work for the vast majority of people – for those who invest a few hundred or perhaps a few thousand pounds in an ISA or savings account each year. For this group – most of us – the biggest investment mistake we make is not doing it. Almost half of us don’t save at all, and most of the rest of us keep our savings in a bank account and don’t put that money to work – what many call “reckless conservatism”. For years interest rates have been at rock bottom while global stock markets have fluctuated but largely risen. When investing for the long term, these fluctuations even out, leaving just the general rise. So much so that when investing for longer than about 12-15 years, a diversified global stock market investment has always beaten a savings account.
If we need to save for the long term, and we’re better off investing our money than holding it in cash, that still leaves the big question: where should we invest it. I cannot answer this for everyone as I’m not a financial advisor and people’s circumstances differ, though I have noticed a surprising similarity when I’ve asked a variety of financial academics and regulators where they put their own investments – almost universally the answer is a low-fee tracker fund. This is because of evidence suggesting that while active investment funds tend to perform slightly better than the index, once the higher fees are taken into account they tend to return less. A tracker fund gives you the average stock market performance at a much lower fee, while a global tracker or a range of national trackers provide diversification.
You might be wondering how forgetting your online password could help. Behavioural finance and emotional finance research tells us that if you frequently monitor investments you tend to make emotional decisions – when investments fall it’s easy to get scared and sell, despite it often being the worst time to do so. Forgetting your password forces you to make a phone call or go through an automated process before you can check, sell or withdraw from your investments. It’s a small barrier if you need to take your money out, but enough of a barrier to prevent frequent checking and help you keep that money invested for the long term. Moreover if you have a range of investments then simply maintaining regular deposits will automatically rebalance your portfolio – if one asset falls in price you’ll buy more of this now-cheaper asset.
Investing is fraught with pitfalls, but it need not be complex. Long-term savings are vital to our financial health, and in terms of generating an income for retirement or other long-term return, not investing or not putting your money to work are the biggest investment mistakes most of us tend to make. Fixing that, and many of the other behavioural or emotional pitfalls we fall into, can be as easy as taking out car insurance or choosing a mobile phone contract.
*Will Brambley is a Research Associate at theTrue Potential Centre for the Public Understanding of Finance (True Potential PUFin)
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