How to develop a long term approach to investing?

by Manshu on November 13, 2009

in Opinion

Last week I wrote about why I prefer long term investing to short term investing or trading. This week I take a look at five things that can help develop such a mindset.

  1. Realize that you are long term on a lot of stocks anyway: One of my finance professors used to kid that any stock that loses money becomes a long term investment. Most people don’t like to book losses, and if they hold a certain stock or mutual fund which goes below their purchase price, they don’t end up selling it at all. There are certain dividend paying stocks that bring such a steady stream of income that you don’t feel like selling them at all. Then there are mutual funds that have a lock in period because of tax reasons. If you think of it this way, there are several stocks and mutual funds that you own or are forced to own for a long term anyway. Recognizing that helps get over the mentality of – “Who knows what will happen in 3 years, I need my returns quick”. By acknowledging that you hold a lot of stocks for a number of years, you make it easier to shift to a mindset where you can think long term.
  2. Invest money that you wouldn’t need for a number of years: If you have invested the money that you won’t need for a number of years – you will be able to avoid forced selling. Forced selling is when you don’t really want to sell a stock, but are forced to do it because you need the cash. If you invest only surplus cash in stocks, — you can avoid this, and be in the market for as long as you want.
  3. Invest in solid companies: If a large part of your portfolio is in fundamentally sound stocks, the kind that has been around for a number of years, have a lot of cash on their books, low debt, and make products that customers like – there is a good chance that they will come out of a crash better than others. This means that you will feel less panicky during downturns and won’t end up selling at the bottom.
  4. Plan inaction: A large part of being a long term investor is planned inaction. A lot of people seek excitement from the stock market. That can become a problem if you try to do too much — trade in and out frequently, try to average when there is no need to, and incur a lot of trading costs, without any corresponding gains. A good way to plan inaction is to stay away from checking your stock portfolio every day. Moving stock prices are a powerful motivator for buying or selling. Looking at them frequently urges you to take action which you otherwise wouldn’t. Instead of looking at your portfolio frequently, set price alerts for stocks. This way, you don’t become obsessed with prices, and at the same time don’t lose sight of your stocks also.
  5. Set Google Alerts for the companies you own: Setting Google Alerts for companies you own helps you keep track of news and events about them. It also does another more subtle thing. It tells you that not a lot happens with your companies on a day to day basis. When I started setting Google Alerts for stocks that I owned, — I found that my stocks were not news worthy. Not a lot used to happen to them which got reported in the media. Initially that made me frustrated, but then I accepted the fact that there isn’t a lot that happens to a company that is newsworthy. That’s just the way it is. Eventually it dawned on me that if I don’t expect the company to do great things every day, — how can I expect the stock to do great things daily? This is a good exercise and I recommend that you do it too.

{ 1 comment… read it below or add one }

Mark Wolfinger November 13, 2009 at 11:43 am

1) If you invest in solid companies, it does cut risk. But it diminishes potential reward.

2) If you decide to invest ‘for years’ and if you refuse to take a loss becasue it makes you feel bad, that’s the behavior of an ostrich. If the reason you invested in a compnay changes, then you have no reason to continue to hold the shares.

3) The modern, prudent investor recognizes that the traditional ideas have not worked, but has nowhere to turn for better ideas.

4) Learning to use options to reduce risk and guarantee no large losses (in return for accept that there will be no large gains) is an alternative that should be considered. But virtually 100% of financial advisors ignore options. That’s no reason for investors to ignore them.

Mark

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