Common errors and bad habits of retail investors

Common errors and bad habits of retail investors

- Brijesh Janardhanan

Retail investors are most vilified set of investors. The general assumption is that they are the ‘greater fools’ as in the theory by that same name. Very unfortunately, to an extent the sobriquet is deserved.

In Indian mythology it is said that Gods get their power from the devotion of multitude. Similarly, retail investors, call them by whatever name, are the power bearers for the power-brokers. They are the ones holding the visionary torch when power brokers have safely made their way home.

Retail investors are usually the loosing side of the trade. There are some very common errors that they end up doing. I just tried to list out some common errors or bad habits that we retail investors tend to repeat.

Buy knowledge: Home-works are for kids

Most of the retail investors do not do homework on which their trades and investments are based. They expect brokers to do the work for them; after all the investors/traders are paying the broker for the research in form of commission/retainers. Unfortunately, broker has conflict of interest and to put it bluntly but truthfully, does not care about retail investors. For the broker, the investor is nothing but a trading account, no matter what the advertisement said. The Broker very well knows that before the investor blows up his account, Broker have to make maximum use of the account to earn his money. Use a part of that money for advertisements & marketing campaign and voila, Broker will have a new replacement account.

Broker does not care about retail investor. They don’t matter in Brokers’ scheme of things. Many brokers misuse the trust reposed by these investors, some are neutral and only a few are real partners in trade. In the dog bite dog world, investor can trust only his own work

Do not pass the buck. It is your trade, your profit, your loss. Stay clear of actions that are meant to blame others/brokers, every action should be independent of external variables and be based on what is important to the investor. And the end of the day you should not and you do not have any body to blame except yourself.

Easy money business: Trades first and then learn

The realization that trading/investing has to be learnt first before putting into actual practice is common. This in itself does not in any way differentiate the caliber of traders. What matters is the realization and subsequent action. For example, most of the traders after initial few losses realize it is better to learn and know a bit more about fundamental analysis and technical analysis, but it is very few who actually strive to gain knowledge or expertise in that.

As wise men in the market have told us, it is must to study how the market functions before we start our operations. As somebody said, in every business/profession, a person spends years studying that art before he reaches a stage of perfection. But in the business of trading/investing the common perception is that we can make money from the Day 1. This is not true. Like any other profession/business, stock markets need constant dedication in learning and working towards the goal.

He(a)rd on street: Get swayed by friends' or analysts' remarks

One of the common 'retail investor error' that results mainly from lack of research/homework is the trader/investor getting influenced by the suggestions of fellow traders/analysts. Since, there is no background analysis done by the investor himself, the fundamental basis of the suggestion is lost and what remains is a skeleton of a reason. Investor becomes the part of the herd, not knowing what and why it is happening, where or why it is moving. When the environment changes the investor/trader does not have a clue that fundamental basis on which the scenario/trade was suggested have changed. Ultimately, after a loss making trade, we end up blaming others when in fact the blame should be squarely be placed on ourselves.

Open-minded: Open conviction

Most of the problems arise due to lack of proper study/homework. When an investor/trader makes a trade but happens to read/hear an adverse comment relating to the trade, the investor starts to get jittery and looses composure. More often than not, psyche helps him out by giving some good reasons to exit from the trade. If such exits are beneficial to him initially, this breaking of trades when somebody casts aspersions on the trade/investment reasoning becomes a very bad habit. The trader is conditioned into a bad habit.

Psychologically, this means trader himself believes that he is not capable of coming up with good arguments for trade. Hence, he short sells his opinions repeatedly. It is must to have an open minded attitude to all trades, but the fundamental belief, the conviction for the trade must be clearly established before the trade is put through. Lacking which the trade/investment will crumble under the pressure of doubt/aspersions.

Let the breeze of thoughts blow from all direction but I refuse to be blown off my feet. – Mahatma Gandhi

Smart news: Trade news

Retail investor is always late for the trade. We can confidently say 'always' because I doubt we have a single instance where the retail investors were the "smart money" It is this characteristic of being so gullible that makes us retail investors the laughing stock.

Smart money anticipates the "news" and probably even knows it before ink meets the paper. Retail investors majorly react to these revelations and enter the trades. There are many scenarios, where trading on news-based events are possible and successfully made. For example, in foreign exchange and commodity markets the news events are very important trading points/opportunities but in equities the "news" is usually compromised facts.

Blinkers on: Watch news channels

Retail investor is a news watcher. Sad but true, retail investors’ biggest weakness is perhaps his/her total surrender of thought faculties to the talking heads on the television or experts in newspapers, a media which has been and is still being used for propaganda and subtle persuasion.

Nothing makes an investor more gullible, blinkered and fixated on an idea/theme than the constant sensationalism of the news media. The following of such media themes, of course are propaganda by the so-called smart money. Under the constant bombardment of compromised ideas, the resistance of the retail investor is finally broken, and investor/trader (usually) ends up making a bad trade.

Tips: Got a tip?

Perhaps, the most obvious sign of the retail investors is "tips". Talk to an investor and after few minutes of conversation; if the conversation veers towards tips, you are talking to a confirmed retail.

Please do not mistake me, lot of "smart money" also ask for tips or rather to put it more appropriately watch the "tips market" to get a sense of what tips are being passed along. You can be sure 'smart money' does trade on the "retail tips" as otherwise they wouldn’t be smart in the first place. Smart guys are interested in the psychological information involving tips than in the tips itself.

The simple logic that if anybody knew a confirmed move would have a large vested interest does not seem to strike many.

Immersed in market

You cannot talk to a person for a long time without conversation veering towards market. I wouldn’t classify them readily as retail investor, but certainly not as matured investors. There is a class of investors/traders for whom the market has taken over their soul. Nothing exists behind the walls of the market. Unfortunately, this only makes them less productive and closed to many trends developing, subtly. There is a class of investors who do not talk about markets in routine conversation even though they are equally involved in the market. For these classes of investors it is usually a concerted effort to avoid the talk. There are many things more important than the wall.

Stocks on fire: Head for exit

One of the main weaknesses of retail investors, in most scenarios, is that they do not sell. Wise men have said you cannot make money unless you sell. But most hold onto their favorite stock, for just one more ride. It is unfortunate the greed takes over the psychology just at the time all the profit objectives are fulfilled. No trend is perpetual and when the market turns back, the opportunity of booking the profits would have been lost.

Retail investors also do not exit at the stop losses. It is not necessary to have stop losses, but if the original plan of trade included stop losses then the discipline of trade must be followed.

And also contrary to expectations, it is not necessary to have stop loss figured out for the trade. But very essentially, the acceptable risk must be clearly defined.

House money: no problem

Another one of the bad habits of retail investors that they do not feel the pain of loosing the money. Either it is part of the "house money" or the capital. As Warren Buffet said the first rule of the game is not to loose money and the second rule is not to forget the first rule. You can make money only if you have capital, without capital or worse lost capital nothing can be achieved.

Volatile plans

A bad trading/investing habit is to exit at the first signs of profit and waiting endlessly drowned in losses.

The biggest pitfall in the market is simply, we do not know the future. No one does. Hence all approximation is nothing but an optimistic estimation of probabilities. We do not know when the trend breaks down but we can only guess; some times a very sophisticated presumption. The uncertainties of the future are part and parcel of markets. But in the case of the retail investor, the fear of this uncertainty amplifies anxiety. This

Jesse Livermore said the biggest money was not made in trading but in waiting. Probably because when the trend is established it runs for a longer time. An early exit in such rallies is usually ‘very’ early and creates a left-behind feeling which in turn leads to some bad decision making just to ‘catch up’. Retail investors are usually the worst offenders of this.

Thrill seeking: Expensive tickets

There is probably no ‘power experience’ in the world than ‘bark’ orders into the phone.
Market is certainly not a place to look for some fun. It is very expensive fun. Not a place to look for thrills. This doesn’t come cheap.

I guess it was Lord Dryden who said most of our problems are due to the fact we can’t spend some time quietly in a room. We crave for action. Markets are a very expensive place to find that.

But trading, just as any other businesses works best when it is boring. So boring, so on auto-pilot that we would rather have our nails plucked out for fun. Making money is perhaps easiest thing to do if only we could sit quiet and wait.


Holy Grail: Double circle

Every retail trader is like Indiana Jones looking for Holy Grail. The Holy Grail, the silver bullet to stardom, the key to his dreams beyond the forbidden borders entice him as powerfully as it did knights templars.

You can see him unraveling the circles of life, like leaves of onion, trying to reach the inner-most circle. Trying to reach the pool that will give him the most reliable tips lots of money, time and hopes are wasted.

Like the Grail, there is an ‘inner-circle’. Just that there is always a circle inside your circle. It should be chased, perhaps, more in the fashion of philosophy of alchemy, refining ourselves to be better traders/investors. But for all the practical reasons the chase should not take precedence over the current realities. When you grow you could find yourself in the center of the circle.

Conclusion

If you look at these reasons, just a sample of large number of bad habits, solving these habits is very easy. But it takes some effort on part of investor to solve them. First and the foremost are to learn about the working of markets, do the homework and plan out the trade, no Plan-Bs if they were not part of trade-plans. Have a bigger picture view of the market; you do not have to be 100% involved to get the most, in other words, have a plan to enjoy the benefits of trading/investing.

Rely on self; you do not have a stronger ally in these markets than yourself.

Strong points and well articulated