If one of your New Year’s resolutions is to manage your money more soundly, you’ll certainly need to focus on your investments. But to increase your chances that 2015 is a year to remember — for all the right reasons — beware the following traps that might hurt your portfolio.
1. Assuming the Good Times Will Stay Good
It’s human nature to hope that what goes up will continue to go up, but the reality is that you can’t predict the future. While you can analyze trends and past performance to get some idea what may happen in the weeks and months to come, no one can tell for certain what lies ahead.
Market volatility, bubble bursts and short-term swings can throw you for a loop if you’re not careful. The Dow Jones Industrial Average and S&P 500 have seen some record rises in recent years, with double-digit increases that could indicate good tidings for the New Year. But cautious investors who view these upswings with a “what goes up must come down” mentality offer plenty of doomsday murmurings of an inevitable market crash.
The trick to successful investing is to find the sweet spot between these two extremes. Realistic investors realize that market fluctuations are part and parcel of the investing game, and they focus on diversifying their portfolio over several asset classes and developing a long-term strategy that fits their own personal risk-tolerance level.
2. Assuming the Bad Times Will Stay Bad
Around Thanksgiving of this year, gasoline stocks tanked. (Pun intended.) While holiday travelers were rejoicing over low gas prices, investors watched as energy stock prices plummeted due to speculation of an imbalanced supply-and-demand situation.
As the “will they or won’t they” debate raged on as to whether this signaled a long-term downturn, investors with a low risk tolerance no doubt found themselves wondering if it was time to jump ship on their energy stocks. But the energy sector is historically decent at rebounding, and Morgan Stanley predicts a rally by the second half of 2015—if investors are willing to wait out the dip.
It’s natural to want to run away from stocks that have crashed, but once again, we have no idea what the future holds, and jumping every time the market fluctuates is never a smart overall strategy. The best strategy is a long-term one built around staying invested for decades in a broadly diversified portfolio — through the rollercoaster, through the cycles, through stock crashes and growth sprees.
3. Chasing the Next “Hot Thing”
Which specific stocks, index funds or mutual funds you choose matters much less than how you diversify among stocks, bonds and other types of investments.
Some investors get caught up in trying to identify the “right” types of funds or stocks to guarantee success, when in reality the biggest factor in your long-term success is your overall asset allocation. As long as you’re choosing high-quality assets and diversifying with asset classes based on your financial goals, you’re on the right track.
Rather than searching for magic-bean stocks, review your allocation annually to make sure it’s still in line with needs and goals. That careful balance will pay off much better in the long run. Your investment advisor, or tools like Jemstep and other online services, can help you identify an appropriate allocation based on your age, goals, risk tolerance and other unique factors.
4. Being Afraid of Risk
Most of us naturally think of risk as a bad thing. But when it comes to investing, taking on a certain amount of risk can pay off—so long as you do it intentionally and considerately.
Low-risk investments may promise you a more predictable rate of return, but your potential earnings are also limited. Higher-risk investments give you the opportunity for potentially larger returns, so long as you’re willing to stick with them for long haul.
It all comes down to knowing your personal risk-tolerance level and how that plays into your financial goals. Sitting down with a financial advisor can help you get over any market fluctuation jitters you may be feeling and get clear on which investments make the most sense for you.
5. Relying on a Hot Streak
Much like a hot streak in blackjack, just because a particular mutual fund seems to be on a roll, that’s no predictor of future success. Place your bets on the streak continuing, and you could find yourself losing out.
Statistically speaking, a fund that has outperformed for several months actually has a better chance of underperforming in the future. (This is called “reversion to the mean.”) Even the pros have trouble regularly beating their benchmark indexes. Your best bet is to realize that a fund’s performance depends on a variety of factors, and to evaluate it in the context of your investment strategy as a whole – rather than putting all your money on a fund that seems like a “sure bet.”
6. Not Getting Started
Maybe you’ve set New Year’s resolutions before to get serious about your finances, but you’ve gotten overwhelmed and procrastinated until another year has passed.
Investing can seem like a lot to take on all at once, but you don’t need to become a pro overnight. Just dive in by meeting with a financial advisor, doing some research online, and investing in reliable retirement accounts like a 401K or Roth IRA. Add in a little more after a while — maybe a mutual fund, exchange-trade fund or a mix of stocks and bonds—and revisit your strategy each year to make sure everything is performing in accordance with your long-term goals.
Investing doesn’t have to be scary. You just have to get started.