Psychology of investing

Consider the case of weight loss, for instance. Losing weight, in terms of strategy, is relatively straightforward. The internet is teeming with different diets, exercise routines, and weight loss tips. So, most people know what to do, but they struggle with the discipline to follow through, to exercise consistently, and to eat healthily.

In reality, less than 5% of people who embark on a weight loss journey actually lose weight. Now, does this mean they lacked the knowledge or strategy to lose weight? No, it shows that they lacked the mindset or psychology to do it. Further, it's worth noting that of the 5% who do lose weight, around 3% end up regaining their weight in the subsequent years. Again, this is a clear demonstration of the significant role psychology plays.

Now, let's extend this discussion to business success. Running a successful business requires the right strategy, including understanding marketing, finance, accounting, logistics, and more. But is that all it takes? If the answer were yes, every MBA graduate would be running a successful multinational company, and everyone with a PhD in finance would be a billionaire. But we know that's not the case.

In the beginning stages of this course, we heavily focused on the strategy aspect. You've learned about fundamental analysis, technical analysis, and how to identify a promising business. While this knowledge is valuable, it's now time to shift our focus to what truly carries weight - psychology and mindset. So, are you ready to dive into the world of investor psychology and master the skill of building your wealth over time?

The first step in the psychology of successful investors is developing absolute discipline. Now, what does this mean? In simple terms, it means that you only buy or sell a stock based on predetermined rules in your investment plan. These rules should be objective and grounded in fundamentals and technical analysis, which is what you've learned so far.

But, do most people invest based on these rules? Unfortunately, the answer is no. Many people base their buying and selling decisions on rumors or emotions, particularly fear and greed. Often, people will buy out of greed and sell out of fear, which is a surefire way to lose money in the long run.

One common mistake many investors make is buying due to FOMO - Fear Of Missing Out. In this case, investors jump onto the bandwagon and invest in something they don't fully understand just because everyone else is doing it. On the other hand, some investors panic sell because of negative news, only to regret it later when the stock's price bounces back. Hence, it's crucial to maintain discipline and stick to your investment plan.

Let's take a look at a real-life example to illustrate the power of discipline - none other than the investment guru himself, Warren Buffet. During the dot-com bubble from 1998 to 2000, many people were buying technology stocks that were not profitable due to the prevailing hype. As a result, prices for these tech stocks soared, while traditional businesses like Coca Cola, American Express, and McDonald's were being sold off.

However, Buffett refused to buy technology stocks, adhering to his rule of only buying companies with positive cash flow, profitability, and undervaluation. This decision led to a temporary setback, with his company, Berkshire Hathaway, experiencing a 23% decline in 1999. Yet, he stood firm against the tide and stuck to his investment principles.

The dot-com bubble eventually burst in 2000, and the tech stocks crashed along with the S&P 500. Buffett, however, managed to dodge the bullet due to his disciplined investment approach. Over the next two years, he made an 80% return while the Nasdaq and S&P 500 saw significant losses.

From this historical event, we can learn a crucial lesson: do not blindly follow the crowd. Instead, stick to your investment plan and maintain discipline. In the long run, you'll see your wealth grow while others may face losses.

In conclusion, the success of your investing journey depends greatly on the strategy you follow, but even more so on your psychology. Your mindset, which forms the bedrock of your investing approach, can make or break your investment success. So cultivate discipline, stick to your investment plan, and never let FOMO, rumors, or emotions dictate your investment decisions. These principles will guide you towards a profitable investment journey, enabling you to achieve your financial goals and build your wealth over time.

Remember, strategy is important, but the right mindset is absolutely critical. You have the tools at your disposal, and with the right mindset, you are well on your way to becoming a successful investor.

The second rule of successful investing: flexibility. But what does flexibility mean in the context of investing? And how can we cultivate it? Let's unpack these questions as we explore this rule in greater detail.

In the realm of investing, flexibility refers to the ability to adapt and change your stance when the facts at hand change. For example, you might have written off a company as a poor investment prospect in the past, but should that company's fortunes turn for the better, your perspective ought to shift accordingly.

A company's financial health can evolve - sales may increase, profits may grow, and share prices may reverse into an uptrend. If these positive changes occur, you must be ready to invest, setting aside your previous negative judgement. This is a classic instance of where flexibility comes into play - you mustn't let past perceptions interfere with your current decisions.

Just as good companies can improve, great investments can falter. Imagine you've bought a stock, initially identified as undervalued and in an uptrend. But after making the purchase, you notice that the company's performance starts to dwindle. Perhaps it's not as promising as you thought, or it may even start losing money. When the fundamentals change, what should you do?

That's right! The flexible investor changes their mind, prepares to exit the stock, and does so regardless of the initial purchase price. Here's where the concept of flexibility is truly tested - when the tide turns against us.

It's all too common for investors to fall into the 'sunk cost' trap - hanging onto an underperforming stock because they can't bear to realize a loss. They might say things like, "If I sell now at $10, I'm going to lose money. I bought it at $20. How can I sell it for $10?" But here's the hard truth - the market doesn't care where you bought it. The market doesn't know where you bought it. If your stock is now at $10, you've already incurred a loss.

Another common argument is that until you sell, it's only a 'paper loss.' Well, that's a misguided perception. If you wouldn't buy the stock at its current price, knowing that it's in a downtrend or a lousy company, why should you be holding onto it? You need to think logically, not emotionally. You have to be willing to sell at a loss, and move on to a more promising investment.

Just as it's essential to recognize when a bad company turns good, it's equally important to know when a good company turns bad. Don't hold onto a losing investment, stubbornly hoping it will bounce back, especially when the company's fundamentals have changed for the worse.

Small losses can rapidly spiral into huge losses if you let your ego or emotions dictate your investment decisions. If you ever find yourself thinking, "I can't be wrong," or "I can't admit I made a bad decision," it's time to step back and reassess.

Successful investing isn't about being right all the time; it's about how much you make when you're right and how little you lose when you're wrong. Even the world's best investors, like Warren Buffett, make mistakes. The difference lies in how quickly they recognize their errors and take steps to mitigate the loss.

Warren Buffett is famous for his buy-and-hold approach to investing. He often says, "Our favorite holding period is forever." But even Buffett, the paragon of patience and long-term investing, knows when to cut his losses. He's not infallible; he's just quicker to admit his mistakes, devoid of ego and emotional attachment to his investments.

In conclusion, cultivating flexibility is about embracing change - whether it's acknowledging a turn in a company's fortune or accepting that a once-promising investment has gone sour. It's about the willingness to sell at a loss, to admit your mistakes, and to let go of past decisions that are no longer serving you. In the world of investing, this flexibility isn't just a nice-to-have; it's an essential trait for preserving capital and maximizing profits.

Remember: the market doesn't care about your feelings, your past decisions, or your sunk costs. It only reflects the current reality. As investors, it's our job to interpret this reality as objectively as possible and adjust our strategies accordingly.

So, as we wrap up this chapter, I urge you to embrace flexibility in your investment journey. Stay open, stay adaptable, and always be willing to change your mind. Because in investing, as in life, the only constant is change.

The journey to successful investing starts with a simple rule: hard work. Regardless of whether you're a long-term investor, a short-term trader, or even a scalper, your success in the stock market will often be a direct reflection of your work ethic. This stands true across all spheres of life, and it's no different in the stock market.

The adage, "There's no free lunch in this world," holds particularly true in the investment universe. It's crucial to understand that no one will hand you money for nothing - if something appears too good to be true, it probably is.

This reality forms the crux of why many people lose money in the stock market. People are often lured into the markets with the illusion of an easy path to wealth. The simplicity of buying stocks, where it either goes up or down, seems like an attractive proposition. But this oversimplified view ignores the countless hours spent researching and analyzing businesses, studying the charts, and meticulously crafting a portfolio.

Successful investing is a labor of love that demands hours of effort because there's no shortcut to wealth accumulation. Thus, a fundamental tenet of investing is to only invest in what you understand and have thoroughly researched.

Discipline is a core component of successful investing. Imagine being invited to a dinner with the world's best investors, such as Warren Buffett, George Soros, and John Templeton. During the dinner, they all disclose they're buying Apple stocks. Would you follow suit?

As an investor guided by discipline, you should not immediately buy Apple stocks just because these billionaires are buying. The reason is simple: you haven't done your own research yet. You need to understand why they're buying.

Being a disciplined investor, if you learn that they are buying Apple, the appropriate course of action would be to add Apple to your investment plan and assess if it meets your investment criteria. If it doesn't, despite their buying, you should steer clear.

Staying within your circle of competence is paramount in investing. You should only invest in what you understand. If you don't understand it, dedicate your time to researching until you understand, or don't invest in it at all.

Warren Buffett once wisely noted, "It doesn't matter how big your circle of competence is, what matters is staying within your circle." Following this advice, I've learned through personal experience that every time I invest in something I didn't fully understand, I lost money. Now, I only invest in companies I comprehend and have researched extensively. It's vital to refrain from blindly following recommendations or stock tips, always do your own research.

Analysts' reports often carry weight, but blind faith in them can lead to financial disasters. For example, back in November 2011, a significant commodity company in Singapore, Noble Group, was highly recommended by analysts. They suggested buying the company's shares at 1.56 with a target price of 2.05.

However, upon conducting my own research, I found the company to be undesirable. It had high debt levels, overvaluation, and unstable cash flow from operations. Despite the analysts' recommendation, I decided not to invest. Subsequently, the stock dropped by 31% in just a month, proving that my decision to refrain from investing was the right one.

This example demonstrates the critical importance of independent research. Never base your investment decisions solely on analysts' reports, as they may not always align with your investment plan or financial objectives.

No matter how seasoned or reputed, experts can't always predict the stock market accurately. A classic example of this was when Goldman Sachs, one of the largest investment banks globally, advised their clients to short stocks in the S&P 500 in June 2012. However, despite their prediction of a bearish trend, the market rose by 7% instead.

This instance underscores the notion that you should never try to outsmart or predict the market. Even if the advice comes from experts like Goldman Sachs, it's crucial to stick to your investment plan. As long as the trend is up, stay long in the market. Only exit during a downturn or if the company's fundamentals are poor.

In conclusion, successful investing requires hard work, diligence, discipline, and a thorough understanding of what you are investing in. Never follow experts or analysts blindly, and always stay within your circle of competence. By adhering to these rules, you're setting yourself up for success in the exciting yet complex world of stock market investing.

Why is patience essential for successful investing? The journey of investing or trading isn't a 100-meter sprint. It's a marathon. It requires endurance, strategic moves, and above all, patience. Yes, patience is a virtue, especially when it comes to the world of investing.

Many people step into the world of investing with inflated expectations. They believe in the 'get-rich-quick' myth and hope to become a millionaire overnight. When they see their money not growing as quickly as they'd hoped, impatience sets in. They discard their carefully designed investment plans or get lured by the next big shiny object - be it forex, options, or the most recent buzzword, cryptocurrencies.

The sad truth is that they don't stick to any one thing long enough to really allow it to work in their favor and to grow their wealth in the long run.

In abandoning our investment strategies, we succumb to the wrong sort of 'fast food' mentality in investing. We want our returns, and we want them fast. However, that’s not how the market works. The stock market isn’t a fast food restaurant where you can have your order within minutes. It’s a garden where you need to plant seeds (investments), water them (reinvest earnings), and wait for them to grow (compound over time).

Renowned investor Warren Buffet said, "The stock market is a wonderfully efficient mechanism for transferring wealth from the impatient to the patient." Hence, most investors fail because they grow impatient when they don't get rich overnight.

No, there's no such thing as a get-rich-quick scheme. If someone tells you that you can get rich overnight, take it as a red flag. It's likely a scam. Real, successful investing isn't about getting rich quick. It's about getting rich slow and sure, and steady, much like the fabled hare and the tortoise. The hare runs fast but doesn't get anywhere, while the tortoise is slow and steady but eventually reaches the finish line.

The power of compounding is phenomenal. It's the secret ingredient that allows small investments to grow into huge sums of money. But the magic of compounding doesn't work in a blink. It requires time. Let me illustrate this with a metaphor.

Have you heard of the rule of seventy-two, also known as the law of seventy-two? It's a simple method to estimate how many years it will take to double your money, given a certain annual rate of return.

The rule of seventy-two states that if you divide 72 by your annual rate of return, you get the number of years it will take for your money to double. For instance, if you follow the strategies of fundamental and technical analysis, you should be able to achieve at least a 25% return per year on average. If you apply the rule of seventy-two, that would mean it takes approximately 2.88 years to double your investment.

Yes, it absolutely is! For proof, let's look at the journey of Warren Buffett, one of the richest men in the world. Buffett started investing at the age of 11, but at 14, he only had $5,000. It was a slow, gradual climb. By 30, he was worth a million dollars, and his wealth grew in leaps and bounds from there, eventually crossing the $60 billion mark.

It's crucial to remember that wealth accumulation, like a game of golf, doesn't happen in a straight line. It grows in a compounding fashion. It starts slow and seems boring, but it picks up pace over time. So, stay patient and persistent, and wealth will follow.

Now, let's turn to the next rule - thinking independently. Many people believe that there's safety in numbers. As social creatures, we're wired to follow the crowd. But in the world of investing, following the herd often leads to financial pitfalls.

In the investing world, the minority who think differently are often the ones making money while the majority, who follow the herd, lose money. To be successful, you need to think independently and often counter to what most people are thinking and doing.

Let's take a closer look at this. Most people tend to buy when they're excited. When are they excited? It's when everyone around them seems to be making money, when the market's doing well, and the economy's booming. That's when they jump in and buy. Unfortunately, that's often the worst time to buy as you're most likely buying at the peak.

Similarly, most people sell when they're fearful. And when does fear set in? It's when everyone around them is losing money, when the market crashes, or when the economy is doing poorly. And that's often the worst time to sell as you're likely selling at the bottom.

The majority of investors lose money in the markets because they're swayed by fear and greed, rather than informed decision-making. As Warren Buffet wisely said, "Be fearful when others are greedy and greedy when others are fearful."

This means you should be cautious when everyone else is exuberantly buying and the market is overvalued. Conversely, you should be bold and buy when no one dares to, when prices are down, and the market is undervalued. It's about taking a contrarian approach to the markets.

In conclusion, don't be like lemmings, small rodents known for following each other around blindly. When one lemming jumps off a cliff, the rest follow, leading to their collective doom. As an investor, it's crucial to think independently, resist the urge to follow the crowd, and make well-informed decisions. Remember, it’s your money, and no one cares about it more than you do.

The ability to think independently and maintain patience are two crucial attributes you need to be successful in investing. Remember, it's a long game. Stay patient, and don’t be afraid to go against the grain.

In the vast, volatile world of stock investing, there exists a stark divide between two types of investors: the immature and the professional. What sets them apart, you may ask? It boils down to their initial thought process before they decide to invest in a stock.

An immature investor's thoughts gravitate towards the profits they might accrue from their investment. The thrilling prospect of gaining financial returns often leaves them brimming with excitement. However, their enthusiasm is a double-edged sword. Yes, investing in stocks may yield a fortune, but what happens when the tables turn?

Professional investors, on the other hand, adopt a pragmatic approach. When they buy a stock, their primary concern isn't how much they could make, but rather how much they are prepared to lose if their investment fails. It's a mentality that hinges on the principle of risk management and capital protection, and it underscores the significance of these concepts in profitable stock investing.

Risk management isn't merely a jargon-filled buzzword; it's a necessity in the stock market arena. Like a trusty shield in a battlefield, it guards investors from potentially devastating losses.

Professional traders often employ stop-loss orders to protect their capital. By predetermining a limit to the potential loss from a trade, they ensure they can exit the market without losing more than they are prepared to.

As an investor, however, placing a stop loss isn't the most prudent strategy. Instead, investors should diversify their portfolio, a tactic akin to not placing all their eggs in one basket. This involves spreading investments across a minimum of eight to ten companies, or a maximum of mid-thirty to forty companies. Diversification helps to spread the risk, ensuring that even if one stock underperforms, the others in your portfolio may still provide a reasonable return.

While diversification is critical, it isn't a random process. Careful planning and strategic decision-making go hand in hand with diversification. For starters, never invest all your capital in one go. Instead, enter the market in stages using a method known as dollar-cost averaging. This technique involves regularly investing a fixed amount in a particular stock, allowing you to purchase more shares when prices are low and fewer when prices are high. It's a smart way to mitigate the risk of investing a large amount in a single stock at the wrong time.

It's essential, however, to ensure that the chosen stock is on a steady uptrend or at support levels in the consolidation. Furthermore, limit the risk on any single investment to a small percentage of your capital. It's a sensible precaution that aligns with the timeless adage: don't risk more than you can afford to lose.

Stock investing isn't a perfect science. No matter how thorough your research or how astute your market predictions, the harsh truth is that you won't always get it right. It's crucial to understand this: there's no such thing as a win-all strategy in the financial markets. The volatility of the markets ensures that losses are a given, regardless of the investor's skill level.

What matters, then, isn't avoiding losses - an impossible task - but limiting their impact. If you don't diversify your risk, one bad investment could wipe out your entire portfolio. However, if you spread your investments judiciously, a poor-performing stock will only affect you slightly. The objective is clear: lose a little when you lose, but make significantly more when you win.

In the wake of a failed investment, it's human nature to look for a scapegoat. Many people lay the blame on bankers, stockbrokers, or even the government. Some resort to attributing their misfortune to bad luck, while others go as far as to question the universe's fairness.

Such a blame game might provide momentary relief, but it accomplishes little in the long run. Worse, it diverts the attention away from the real issue: personal responsibility. When you point a finger at others for your investment mishaps, you surrender control of your financial future to external forces. It's like handing over the steering wheel of your life to someone else.

To change your life and shape your financial future, you need to stop living like a victim. Cease blaming, drop the excuses, and instead, embrace responsibility for your investment decisions. Accepting your missteps might be tough, but it's the first step towards growth and improvement.

Remember, every mistake is a learning opportunity. It's through acknowledging our faults and learning from our blunders that we acquire the wisdom and skills to become better investors. Your power lies in your ability to change your results over time, and that power begins with taking responsibility.

Have you ever found yourself attempting to predict where the stock market is going? If so, you've probably realized just how futile this endeavor can be. Whether you are an investor or a short-term trader, it's essential to understand that, as professionals, we never predict where the market will go.

Instead, our focus is solely on purchasing fundamentally sound companies, confident that they will increase in value over time. The entry point? When the trend is in our favor, when they are on uptrends, or when they are consolidating at support levels.

Attempting to predict the future of the stock market is, in essence, an attempt to predict the collective emotions of millions of individuals. Can you predict your partner's emotions tomorrow? Most of us would say no. How then can we predict the emotions of millions of people participating in the stock market? This is why predicting the market is not a sustainable or successful strategy.

You might be asking, "If we don't predict, does it mean we're just following?" Precisely! As investors or traders, we follow the most probable direction of the price. If the trend is upward, we stay in the market. If the trend is downward, we might consider exiting.

It's important to remember that investing should be about focusing on solid businesses and ensuring that your decisions to buy or sell are based on concrete factors. These can include fundamental criteria, valuation, and reading trends in the market.

Holding a predictive mindset can often cause investors to deviate from their pre-determined investment rules. It's when we try to outsmart the market that we often lose sight of our investing principles. This predictive bias can lead to poor performance and decisions that aren't in line with our trading rules.

But how does this look in practice? Let's delve into some historical examples to illuminate the dangers of predictive bias.

Consider the double-dip recession predictions a few years back. There were contrasting opinions, with some predicting an imminent recession while others completely dismissed the possibility. The truth is, neither side knew for certain where the market was headed. Listening to such predictions is, more often than not, a futile endeavor.

Here's another example from the 2016 U.S. presidential elections. The majority of polls predicted a Hillary Clinton win, and many claimed that if Donald Trump won, the U.S. stock market would crash. Following Trump's unexpected victory, those who attempted to outsmart the market by short selling stocks immediately lost out. The U.S. stock market did not crash but instead rose by 12%.

This example illustrates that even billionaire investors like Mark Cuban, who predicted a 20% crash in stocks if Trump became president, can't reliably forecast the market's trajectory.

If we can't rely on billionaires and poll predictions, surely the Federal Reserve chairman's insights should be reliable, right? The answer is a resounding no. Even those in the highest financial positions can't accurately predict where the market is going.

A case in point is if you had listened to the Federal Reserve chairman's predictions a few years ago, you would have missed out on a hundred percent return in the market. As you can see, relying on others' opinions can lead to missed opportunities and potential losses.

The winning strategy in stock investing is simple yet powerful: Stick to your game plan, follow the market trends, and invest in good companies. This approach minimizes the influence of predictive bias and keeps you aligned with your investment rules.

In conclusion, as exciting and tempting as it may be to attempt to predict the stock market's future, it's important to remember that no one can accurately do so. Therefore, it's crucial to focus on what you can control: understanding the fundamentals of the companies you invest in, reading market trends, and making decisions based on solid criteria rather than speculation or predictions.

Through this chapter, we've learned the importance of eschewing a predictive mindset, the dangers of deviating from our investment rules, and the merits of sticking to our game plan. In the unpredictable world of stock investing, these principles will help you navigate and make informed decisions, setting you on the path to profitable investing.

Psychology of Winning Investors

Lesson ten focuses on the importance of psychology in achieving success in anything, with strategy making up only 30%. Weight loss and business are used as examples to illustrate the need for emotional discipline, focus and self motivation.

Discipline in Investing: Having absolute discipline when investing, based on predetermined rules and avoiding rumors, emotions, and formal.

The Dot Com Bubble

The price of tech stocks kept going up, causing people to sell traditional businesses like Coca Cola and McDonald's. Warren Buffett refused to buy these stocks, sticking to his investment rules. Everyone laughed at him when his portfolio was down 23%. The dot com bubble burst in 2000, and everyone lost money except Warren Buffett who stuck to his rules.

Dot Com Bubble and Investment Strategy

NASDAQ and S&P 500 dropped significantly during the dot com bubble. BlackLine outperformed S&P 500 since then. Investment lesson: have a plan, be disciplined, and be flexible.

Cut Your Loss: Take losses like a man or woman, don't stay in bad investments, and admit when you're wrong to avoid huge losses.

Hard Work: No free lunch in stock markets, hours of research needed to make money.

Stay Within Your Circle of Competence

Invest in what you understand and have researched yourself. Never blindly follow the advice of analysts or experts. Examples of why this is important are given.

Investing Blindly: Never follow recommendations without doing own research. Stock was on downtrend, overvalued, and had high debt. Resulted in 31% drop in a month. Cut losses and invest elsewhere.

Never Outsmart the Market

Experts may give advice, but always do your own research. Goldman Sachs recommended shorting stocks in June 2012, but the market went up 7% instead.

Investment Plan: Follow a plan and stay in the market as long as the trend is up. Get out during a down trend or if the company is fundamentally lousy.

Rule of 72: Investing is not about getting rich quick, it takes time and patience to double your money with a 25% return.

The Power of Compounding

Explains how compounding money can lead to exponential growth, using a golf game analogy. Starting from 10 cents, the bet doubles until it reaches a whopping 13,000 dollars on the 18th hole.

Compounding Wealth
Warren Buffett grew his wealth to become one of the richest men in the world, starting at age 11 and reaching a net worth of $60 billion. Money grows in a compounding fashion, requiring patience in the initial years.

Think Independently
Most people don't succeed in investing because they follow what everyone else is doing. To make money in financial markets, one must think independently and opposite of the majority.

Risk Management and Capital Protection
Be fearful when others are greedy and be greedy when others are fearful. Risk management and capital protection is key to success in the markets. Diversify your portfolio and use dollar cost averaging to average your price in.

Diversify Risk and Take Responsibility
Always diversify risk to reduce the impact of bad investments and take responsibility for mistakes to have the power to change results.

Don't Listen to Predictions
No one can predict the market, so don't listen to experts or gurus. Stick to your investment plan of buying good companies and following trends.

Never Listen to Predictions
No one can predict the future, even billionaires. In 2016, many people predicted Hillary Clinton would win and the stock market would crash if Trump won. When Trump won, many people tried to outsmart the market and short sold, but the market went up.

Never Predict the Market
Stock market went up after Trump's election, billionaires like Soros lost money predicting it. History shows even Federal Reserve Chairmen can't predict the market and investors should follow the trend.

Stock Market Performance

The S&P 500 has increased by 329% in the last nine years, resulting in a 16% compounded annual return. Following a trend-based strategy would have yielded a 300% return. However, some people failed to make money due to listening to news and predictions.

Follow the Market
Investors should not predict the stock market, but rather follow the trend of the market to ensure they do not miss out on potential gains.