During the first half of this year, I spoke with several self-proclaimed do-it-yourself (DIY) investors who, after struggling with the markets in 2022, approached me for advice. Even though 2022 was an anomaly (with both stock and bond markets taking it on the chin at the same time), the challenges they were facing were very similar to those experienced by other self-directed investors I’ve spoken with over the past 15 years.
I’ve listed six of the most common challenges below. I’ve also provided some insights on how investors can overcome them.
1. Diversification Dilemma
In most cases, a well-diversified portfolio should form the cornerstone of a successful investment strategy. Unfortunately, many DIY investors find it difficult to achieve the proper balance of assets. A lack of diversification may result in a higher-than-expected risk profile, impacting your portfolio’s overall performance.
To overcome this obstacle, take the time to understand exactly what types of investments you own and the different exposures they have. It’s also important to remember that diversification and proper asset allocation are methods to help mitigate investment risk; they are not a guarantee against investment loss.
2. Emotional Roller Coaster
Emotions can be a DIY investor’s worst enemy. When the market is volatile, it’s natural to feel stressed or anxious. However, emotional decision-making can lead to impulsive buying and selling, often at the wrong time.
To keep your emotions in check, establish a clear investment strategy at the outset, and stick to it. Focus on your goals, time horizon, and risk tolerance rather than short-term market fluctuations.
3. Overconfidence Trap
The overconfidence trap is a common pitfall for DIY investors. It’s easy to assume that past trends will continue, whether the markets have been moving higher or lower. This overconfidence can cause you to be improperly allocated during periods of volatility.
To avoid falling into this trap, try to approach investing with humility and recognize that the financial markets are full of surprises. In other words, expect the unexpected (like COVID-19). Conduct thorough research, assess potential risks, and make informed decisions based on objective data rather than intuition.
4. Fees & Taxes Oversight
Fees and taxes can negatively impact your investment returns, especially over time. However, many DIY investors overlook these costs when making decisions. High fees can erode your returns, while inefficient tax management can generate unnecessary expenses.
Consider doing your own preliminary research on fees first and then consult a seasoned financial professional to make sure you haven’t misinterpreted anything. Also, don’t let the “tax tail wag the investment dog” by making investment decisions solely based on tax considerations. With that said, if you’re not sure about the tax ramifications of a potential investment action or strategy, consult with a skilled tax professional before moving forward.
5. Inconsistent Portfolio Reviews
Regular portfolio reviews can help bolster your chosen investment strategy. Unfortunately, many DIY investors neglect this step. Without periodic evaluations, your investments may drift from your original goals, and you may overlook opportunities to rebalance or adjust your strategy.
To avoid this mistake, set specific times to conduct portfolio reviews. Ask yourself questions like, “What role is this investment playing in my portfolio?” and “Am I still holding the proper amount of this security?” or “Can I get the same exposure for a lower fee by switching investment vehicles?”
6. Hesitating to Seek Advice
An investment advisor who acts as a fiduciary at all times can be a great resource. They are required to provide advice that’s in your best interest, not their own.
Many self-directed investors ultimately opt to collaborate with an investment advisor to some degree. This allows them to benefit from the advisor’s professional education and experience while still retaining control over the portion of their investments they choose to keep DIY.
Final Thoughts
DIY investing can be an educational and potentially rewarding journey if you’re able to learn from your mistakes and adjust your approach as necessary. It’s definitely not for everyone, though. If you do opt to go the DIY route, I’d recommend that you start small and keep these mistakes in mind as you navigate the markets. In particular, I’d suggest paying close attention to mistake #2. As Warren Buffett once said, “The most important quality for an investor is temperament, not intellect.”
Originally published in the Aspen Times, July 18, 2023.
This column is general information, not individualized investment, tax or legal advice. Figures and rules were current when it was written and may have changed. Past performance does not guarantee future results, and all investing involves risk of loss.