Stock Trading Misconceptions That Will Give You Away as an Amateur

So here you are, making your first trades in your path to becoming a Trader. You’re starting to get a hold of the lingo, and you’re raring to become an overnight sensation. But, what should you know before you start? Is trading all it appears to be? Here is a list of tips compiled from a number of veterans in the biz, absorb them and soon enough you’ll be a trading pro.

  1. A Hot Stock = Good

The first misconception that amateur’s quickly learn isn’t true is that a hot stock isn’t always the best stock to invest in. No investment is guaranteed, and just because something is doing well and has a great reputation, doesn’t mean it is a good idea to invest in it.

A lot of stocks in this position are actually overvalued. The hype has gotten ahead of it, and now you are paying way too much for what it is worth. Hopefully, if you’ve made this mistake you shouldn’t lose a huge amount when the value corrects itself, but you aren’t about to make the fortune you were expecting.

This is the most important lesson you will learn: you should be investing for the long term, not the glamour. This means, it is not actually the end of the world if you have invested in overvalued stock. You shouldn’t immediately sell when you realize your mistake – stay in for the long-haul and you are likely to make some money anyway, whether it be in a year, or a decade.

  1. A Bad Market = Bad

The other side of this coin, is the belief that a bad market means a bad investment. A stock that is doing badly, is not necessarily a bad stock to buy. Many companies go through short-term blips, sometimes made worse by people panic-selling.

The most important thing to do, is to do your research. Find out if it has stable fundamentals – this is their long-term qualitative and quantitative information, such as revenue, assets, liabilities and growth – and find out the reason for the blip. Using this information, you should be able to ascertain whether the problem with the stock is systemic, and thus likely to lead to all-out failure, or a short-term problem.

If it is a short-term problem, think of the low-stock like a sale. But, like in all sales, don’t go crazy and spend more money than you would have if there weren’t a sale. Just look at it as good value-for-money.

Similarly, if your stock is doing badly, research why this is before you panic-sell at a loss.

  1. Hiring a Broker = Good

Hiring a Broker to work for you sounds like a great thing to do. It seems like you are hiring an expert who will make you lots of money, without you having to lift a finger! But, unfortunately, it is not that simple.

Despite what many people pretend, the truth is no one can predict stocks. No one is going to make you a millionaire, no matter how much experience they have. If they could, they wouldn’t need to be charging you to make themselves money.

The truth is, most of the money that is made in the industry is made by people selling their advice, ideas and experience, rather than in actual trades. As such, a broker is not that likely to operate in your best interest. They make money every time you trade, but you pay the fees. This encourages them to buy and sell very frequently to make them the most money, rather than invest with a long-term frame of mind.

If you want help, which is understandable, a fee-only financial planner is a better option. They charge by the hour to give you advice. As such, their advice and actions are likely to be unbiased, as their fee is not tied to any particular action. They also have the motivation to get it right, so that you will return to seek advice again. Over time, you can build up quite a healthy, trusting relationship between yourself and your financial planner.

  1. Insider Tips = Good

The first time you think you have a great insider tip, you’ll feel like you’re indestructible. But watch out, similar to hiring a broker, the vast number of insider tips are absolute rubbish.

Generally, anyone promising you any specific results when they try to sell you advice, is talking rubbish. This is because, if they were able to guarantee anything, they would not need to be selling their tips – they would be millionaires already.

It is possible that a genuinely close friend who you trust, and who is telling you something for free, may have a good tip. But always ask yourself: where is it coming from? Are they telling you something they heard as a mere rumor? Or are they telling you something that they know as an absolute fact that no one else knows?

Remember: the best ‘tips’ would actually be pretty illegal somewhere along the line. It would require somebody trusted within a company revealing some pretty sensitive information, and this does not happen very often, and not on such a level that it spreads to an amateur trader.

  1. Your Stock Doing Well = Money Made

Last of all, stop staying ‘I made X amount today’ when it is just a simple portfolio or stock which increased in value. It is a dead giveaway that you are an amateur, and that you don’t understand how stocks work.

You only make money if you sell. If your stock has made a huge amount in one day, feel free to sell if you wish. But, you should consider that you could be missing out on future gains. Stock going up a large amount in one day, is often an indicator of great long-term growth on the horizon. You could make a one-off $1000, or you could make thousands in a year, or even tens of thousands in a decade. Compound interest over a decade, will make you a lot more than one good day. The amount your portfolio has made in one particular day is never really that relevant.

Ultimately: Don’t Make It All about Risk

There is one cliché that holds true: You can lose it all in one bad decision.

There is a romantic view of stock trading that it is all ‘Wolf of Wall Street’ and about making a lot of money fast. But professional traders know how necessary it is to have rules and caution.

One such rule, for example, is the 10% rule. Never use more than 10% of your portfolio for personal trading – this means put over 90% into low cost index funds, and then ‘play around’ with less than 10%. Some would advise less than 5%.

The best advice is to set up your own rules, and stick to them. Rules such as: don’t impulse buy, or panic sell. Stock Trading is essentially high-stakes gambling, and, like all professional gamblers know, never spend anything you weren’t prepared to lose.

Enter into it for the long-haul rather than short-term, high-risk pay offs, and you should be fine.

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