Each week, one of ourinvesting experts answers a reader's
question in the Q&A column from our sister site,
. It's all part of our mission to help consumers build and
protect their wealth through education. If you'd like us to
answer one of your questions, then please
. (Note: Wewill not respond to requests forstock picks.)
There's a sharp divide between intelligence and wisdom. We're
born with intelligence, yet accumulate wisdom along the way. That's
surely a distinction any advanced investor will tell you. Even the
savviest investors stumbled badly at the start, but they saw their
performance improve as they learned from their mistakes. Here's
what one reader asks about the subject:
"I'm just starting to get into themarket . What's the biggest
mistake you see people like me make?"
- Will, Austin, Texas
Will, there are ample missteps that a novice investor can make, but
the biggest challenge is haste. Investors are quick to act on a hot
tip and they invest too muchmoney right away. You're better off
proceeding methodically with yourinvestment research before youput
alot of eggs into any one basket.
Let me explain.
Investing isn't just about profits -- it can also be quite
exciting. The challenge is to keep that excitement in check and
remain circumspect while you are assessing a company's growth
Years ago, a colleague of mine did just that. He was convinced
had a potentially lucrative opportunity with a newly launched music
service called iTunes. Though we now know iTunes became a
spectacular success, few onWall Street initially grasped its
importance. Indeed,shares of Apple languished under $15 in the
first fewquarters that iTunes was under way.
My colleague used that time to really dig in to the concept. He
rightly wondered if iTunes would be a success if most other
investors seemingly remained dubious. So he invested just $1,000 in
Apple and proceeded to read up on the topic. He analyzed the
pricing model, Apple's costs, barriers to entry, technology reviews
and Apple'sfinancial statements .
With each passing step, he grew more impressed, buying more
shares along the way, until he had invested $5,000 in Apple. To be
sure, he had to pay a little more for each successive block of
shares as Apple had begun to rise in price. But $15 and $20 for a
stock is small change when that stock eventually goes to $700
(where Apple eventually peaked).
It's especially important to proceed slowly when you are looking
at an already popular stock that is being touted as a "can't-miss
winner." In the middle of the past decade, the news media took note
of a revolutionary way to extract natural gas from deep rock
formations (known as shales). We now know this technique as
fracking, and true to the hype, our nation's gas production is now
But in the early stages, investors quickly grew excited about
the companies with the mostreal estate in these shale regions, and
none had amassed as much land as
Chesapeake Energy (NYSE:
. Investors rushed to buy this stock, even as it soared above $60
in 2006. (High natural gas prices at the time also made this
company look like a potentialprofit gusher).
Chesapeake eventually received low marks forcorporate governance
by activist investors such as Carl Icahn. Along with others, Icahn
reportedly pushed Chesapeake to add independent directors to the
company's board and eliminate any separate profit-sharing
agreements thatCEO Aubrey McClendon allegedly had signed with the
company. Still, shares have failed to rally above the $20 mark,
even as the company reportedly has sought to address investors'
concerns. Winning back credibility will take time.
Action to Take -->
My colleague who invested in Apple understood the first rule of
investing: If you come across a great investment idea, you have to
do the legwork to verify that it is as promising as you suspect.
You would be surprised at how manystocks look like bargains or have
growth plans that seem exciting, only to find later that there were
some obvious problems beneath the surface.
This article originally appeared on InvestingAnswers.com:
The Cardinal Sin Of
Beginning Investing -- And How To Avoid It
-- David Sterman
David Sterman does not personally hold positions in any
securities mentioned in this article. StreetAuthority LLC does not
hold positions in any securities mentioned in this article.