Common Errors to Avoid When Investing
January 22, 2020 4:55 am
Based on advice from Fund Managers Association of Nigeria, Goddy Egene writes on common errors to avoid when investing in 2020 and beyond
We all agree that no one enjoys losing money and the zeal applied in pursuing a particular financial/investment goal does not automatically prevent losses. At times, we may quickly recover from losses, and other times, the recovery could be longer and even lead to unbearable difficulties. Investing therefore comes with uncertainties and unique circumstances determine the outcome of any investment choice.
It is not uncommon for people to make mistakes when they are new to investing because they are not aware of common pitfalls and how to avoid them. Even seasoned investors can make wrong investment decisions, but mostly in hindsight. This poses a vital question, “can one invest risk free?” The short answer is no. However, there are common errors that can be avoided when investing which can reduce the level of loss.
Investment choices often hover between the extreme of cupidity and fear and the awareness of this can keep any investor in check from making extreme investment choices. According to the Fund Managers Association of Nigeria (FMAN), the following are worth noting in making investment choices or decisions.
Investing without a clear objective
FMAN noted that investing without a clear objective exposes you to avoidable errors. Investment goals can range from financing a long-term project like a home to financing education or something as simple as earning a decent return on idle funds. Having an investment objective is the first step in the right direction to achieving a desired outcome and ensuring that you do not get carried away by cupidity or fear. A clear objective instills discipline in terms of consistent saving, selection of appropriate investment outlets and type of risk worth taking.
The fund managers, therefore explained that it is important to set a clear goal and start investing NOW if you have not started already.
“In setting up your goal, determine how much you can afford to set aside, how much time you have, the available investment options as well as their underlying risks. In addition, if you do not have time or capacity to oversee your investments directly, selecting a mutual fund managed by a reputable investment manager is the way to go; you can start with as little as N5,000,” they said.
Obtaining little information on desired investment
First time or inexperienced investors typically invest with little or no information about their potential investments. This often results to a mismatched risk appetite with investment outcomes such as return, cash distribution, liquidity requirement etc.
“To deal with this error, firstly, you must understand the basics of the different types of investments (e.g. Treasury Bills, Fixed Deposits, Bonds, Stocks, and Real Estate), the income and cash generation profiles and how their markets work. You must perform an adequate due diligence to answer important questions like, “What are the underlying drivers of earnings for the investment?”, “What is the cash-flow pattern?”, “What is the credibility of the promoter or investment manager?” “What are the terms of the contract?” “Is the promoter regulated by agencies like the Central Bank of Nigeria or the Securities and Exchange Commission?”These questions help you make informed and intelligent decisions and also provide a basis for assessing the risk you are taking,” FMAN said.
It is also critical to understand the information you have on the various investment opportunities to limit the probability of losing money to fundamentally flawed investment outlets or schemes. A reputable financial adviser can assist in this regard.
Chasing only high investment returns
The investment managers said allowing the obsession with high investment returns to cloud your decisions could limit your ability to assess or identify the underlying risks in the investment options.
“Greed makes the glitter of Ponzi schemes attractive to individuals despite costing many people billions of naira historically. These schemes appear from time to time and have thrived on absolute greed and lack of understanding. Such schemes have no real or sustainable underlying earnings driver and only remain in existence for as long as there are enough new entrants to service the commitments to the earlier participants. Most of the individuals who invest in these schemes get caught up in the euphoria of how much they or other participants are making from the schemes within a very short period,” they said.
Though all investments involve some level of risk in exchange for potential returns, FMAN said you must assess your willingness and ability to take the type of risk inherent in the investment opportunity before you.
“For instance, it is not advisable for a 65-year old retiree to invest a significant portion of his pensions in stocks without other stable sources of income to cater for medical bills and living expenses. Similarly, it is not wise for a 35 year old with three children to invest the savings for his children school fees (due in a few months) in a risky unregulated scheme. Whilst these individuals might be lucky with the outcomes a few times, they might not be so lucky in other instances which could result in dire consequences.
The risk-return tradeoff principle states “the higher the potential return on an investment, the higher the risk”. However, an individual must take time to assess and understand their risk appetite, return objectives and their circumstances. Some basic considerations include income, age, living expenses and other financial commitments. First time investors or those with minimal investing experience can therefore avoid costly errors with these basic guide as they seek opportunities in the investing world,” they said.