Learn How to Become a Better Investor

I grew up watching Star Trek. One of the main characters is Spock, a Vulcan who, unlike us humans, is logical to a fault. You can learn a lot by watching his cool, unemotional character make rational decisions in the face of great stress. Old economic theory thought that humans were like Spock, always making rational decisions that would lead to maximizing wealth. The newer field of behavioral finance tells us otherwise. To be a better investor, study behavioral finance, and watch more Star Trek.

• Get better at investing through behavioral finance

Gene Fama is a famed academic in the field of finance. I heard his son once said, “Your money is like soap. The more you handle it, the less you have.” So true. Moving money entails transaction costs, sometimes tax consequences, and most often, you’re going to move it at the wrong time. How do I know this? Year after year research shows that average investors underperform the market, earning half of the returns they could have all because of their poor timing abilities. For better than average investing, when you move money, it needs to be part of a well-designed investment plan, not a last-minute reaction.

• Why average investors earn below average market returns

Dollar cost averaging is a strategy used to reduce market risk by automatically investing a set amount at regular intervals. It forces you to buy more shares when the market is down, and buy less when the market is up. Smart savers automate their savings plans and let them run for years and years at a time. Be a smart saver, and if you don’t already, start dollar cost averaging.

• Setting up your own dollar cost averaging plan

Stocks are not for everyone. You can build a solid financial plan using only guaranteed, safe investments. If you don’t understand the stock market or what a mutual fund is, probably best to avoid these investments all together until you learn more. If you do understand but get too nervous, then stay out of the market.

• Making safe investments

Your colleague just doubled his money because he bought Apple stock at the right time. Does that mean he was smart... or lucky? Slow and steady savings with a disciplined plan delivers results, much like the Turtle, who steadily plods along. Bet on luck or skill and it may turn out okay, or you may get an unpleasant surprise.

If you feel like money sitting in cash or money market accounts is wasting away, think again. Cash can be a great place to store money while you research, study and learn how to make smart decisions with it. People with cash have the ability to take advantage of great investment opportunities when the real estate or stock markets go down. Those who were fully invested don’t have those same opportunities.

• The power of cash

A stock is not the same as a stock index fund. A bond fund is not the same as a stock fund. It is amazing how many people who own large cap equity mutual funds react to an irrational fear that they can lose all their money. Do they have any idea what they own? Do they really think all the 500 largest companies in the U.S. are going out of business at once? There is a distinct difference between what I call a Level 5 Investment Risk, where you can lose all your money and taking on a Level 4 Investment risk, where you can’t.

• How much investment risk do your funds have?

I love the internet. The amount of information available is astonishing and at times, overwhelming. But to get the depth of knowledge on a topic, I still think nothing beats a good book. Educated investors earn higher returns. Commit to learning first and you'll get better at investing.

• Great investment books

When is the last time you went to the mall, saw something you really wanted that was on sale at half price, and thought, “No, I am afraid the price might go down more. I am not going to buy it now.” When stocks drop substantially in price that means your future financial goals are on sale. Better investing means acquiring the knowledge and discipline to recognize when things are on sale and buy low.

• Why acting on price can be a mistake

Who is “they”? All the people (including me) who offer advice and financial commentary to the public. We don’t know you or your situation. We are offering advice that is applicable to a broad population. Does it apply to you? I don’t know, and neither do “they”. Only you and if you have one, your personal financial advisor, can determine if the advice is applicable to your situation.

• How to find a financial advisor who does know you