4 Stock Investing Mistakes Burning Your Capital (And How To Fix Them)

Why is it that most retail investors lose money in the stock market while there are some who consistently generate great returns year after year? The answer is that most retail investors fall prey to common stock investing mistakes that prevent them from succeeding in the stock market.

Selling Stocks When A Recession Starts

One of the most common mistakes investors tell me is that they sell stocks when a recession starts.

They anticipate when the stock market is going to go down by watching the economic news. And you just can't do that.

Why? Because always remember this, the stock market is not the economy. They are two totally different animals.

Stock Investing Mistake 1 - Listening To The Prediction Of Experts

The first mistake is listening to the predictions of experts. Every single day when you watch the mainstream news, you've got all these talking heads on TV, these economist and stock market experts giving predictions about the market.

“Oh, the market is going to go up, market is going to crash, Gold's going up, bonds going down.” and so on. And let me tell you that when you listen to all these predictions, you're never ever going to get consistent results for yourself.

Here's an example. So on 19th of March about 2 month ago, David Stockman, one of the experts said that the virus is sparking a financial crisis that warns wall street is toast.

Stock Market News Prediction Example
Source: CNBC

So imagine reading this article, and most people will freak out. These people will sell and not buy stocks. And guess what? On the 19th of March, if you had sold your stocks in fear, you would have missed that 33% rally shown below. Or if you had failed to buy, you'd have missed that rally as well.

Covid-19 Stock Market Crash Price Charts
Source: TD Ameritrade Thinkorswim

Now is this an isolated incident? I think not. Let me show you how you would fare if you had made this stock investing mistake of listening to the predictions of experts.  

In the last 10 years from 2009 to 2019, the S&P 500 ETF went from about 70 points to 290 points. That’s over 262% return in 10 years.

Use Of Technical Analysis To Determine Entry And Exit Points
Source: TD Ameritrade Thinkorswim

Now I tell my students the stock index always goes up in the long run. So you have two things you can do. Number one is dollar cost averaging, which means every month just put a bit of money in the markets and close your eyes through the ups and downs. You will always make money by buying and holding. For this case, buying and holding would give you 262% returns in 10 years.

Alternatively, you can use trend following by using the moving averages shown above. So when the 50 moving average blue line goes above the green line and you're sloping up, that's where you buy. And  when the 50MA crosses back below the 150MA and they changed slope, you sell. If you use this method, you would make even more than the 262% returns.

Either way you would have made triple digits returns in the market in those 10 years because it was a 10 year bull run.

But most retail investors did not make any money during this 10 year bull run. Why? Because they listened to predictions from the experts. Let me show you some examples of the headlines from the last 10 years.

Bad Economic News Forecast In The Past
Source: The New York Times

If you had read this article in 2010 would you have bought stocks? No. You’ll probably sell your stocks in fear. And if you had sold your stocks in 2010 what would have happened? You would have missed one of the greatest bull runs in the stock market history because you listened to the predictions of experts.

Bad Economic News In The Past
Source: Fortune

Again, there was no crash in 2016 and the market went up again.

So every bloody year there's always someone who says the market's going to crash. Now eventually, of course it’s going to crash, a broken clock is right at least twice a day.

But the fact remains that in the long run, the stock market always goes up and 90% of the time the stock market is in a bull market and it's only 10% of the time that we have a market crash or bear market.

But if you read these garbage headlines every single year, guess what? You’d miss out that 90% of the time where you can multiply your wealth incredibly.

So concluding our first lesson - ignore the predictions of experts. No one can predict the short term market direction. No one, not me, not Warren buffet, no one. But in the long run, the market will always go up.

So what we do as investors is really simple. We focus on the fundamentals and valuations of the individual companies. In other words, as long as it's a good company with strong fundamentals, rising sales and earnings and it’s undervalued, we accumulate the shares and we follow the market trends. When the market's in an uptrend, we stay long. When the market reverses into a downtrend, we can go short such as using put options to protect our positions.

Stock Investing Mistake 2 - Thinking That Low-priced Stocks Have More Potential

Here’s an example to directly illustrate my point.

Let's go back to the 16th of March 2020 and imagine you've got two stocks. The first stock is selling at $5.90 per share with a PE ratio of 9x. while the second stock is $1,600 per share with a PE ratio of 70x.

Guess which stock most retail investors would rather buy. Yes, most retail investors would rather buy the low-priced stock because they can buy more shares. They also tend to buy low PE stocks and avoid high PE stocks.

This is a huge stock investing mistake. Let’s look at the 2 stocks now.

Stock Comparison - General Electric VS Amazon
Source: TD Ameritrade Thinkorswim

The first stock is General Electric (GE) and 2 months ago it was at $5.60. After 2 months, today this stock is at $6.29, gaining only 12% in the last three months.

The other stock is Amazon (AMZN) and 2 months ago, it was at $1,600. Today, Amazon is at $2,400 which gave it a 47% gain compared to GE’s 12%.

So why did AMZN outperformed GE? Two reasons. The first reason is because AMZN is a company with much higher growth rates. Its sales and profits are growing in a much stronger way.

Looking at the last five years, AMZN has been growing at 30% return per year and is projected to continue to grow 30% whereas GE in the last five years has seen declining growth and its projected growth rate is at single digits. Hence, it's not about the price of the stock, it's about the growth potential of the business.

The second reason is that to most people, Amazon looks expensive at $1,600 per share. But if you are a trained investor and you know how to value the company using a discounted cash flow analysis, you’d realize that $1,600 is cheap. Based on my calculations, Amazon is valued at $4,300 per share. That's the intrinsic value, which means that at $1,600, Amazon is lower than half price which is cheap.

So you can see that whether a stock is cheap or not has nothing to do with the absolute price. It has got to do with comparing the price to its intrinsic value. So Amazon is dirt cheap at $1600 but for General Electric, if you do an intrinsic value calculation, you find that it is valued at only about $7 per share.

Hence it's only 16% undervalued whereas Amazon is 60% undervalued. This explains the tremendous change in stock prices in the months that follow.

So lesson number two, a low price stock may not necessarily have greater potential. What's more important is to look at the projected growth rates and historical growth potential of the company.

At the same time, a $5 stock could be expensive and a $1000 stock could be cheap by comparing the stock price to the intrinsic value.

Hence, the point is to only buy stocks that are fundamentally undervalued by comparing it to the intrinsic value. This is something that you’ll learn in my Value Momentum Investing™ Course where you get all the calculators to help you to value the shares and to only buy stocks with high growth potential.

Stock Investing Mistake 3 - Not Investing Out Of Fear That The Market Will Go Lower

Now, this mistake stems from the desire to catch the bottom that causes many investors to never get into the markets and catch the bull run.

No One Can Predict The Market In The Short Term

Here's the important fact that you got to be aware of. Nobody knows where the bottom of the market is or when the stock is going to bottom.

But the good news is you don't have to catch the bottom to make a fortune to be a successful investor. I don't know where the bottom is. I can only guess and I could be wrong, but it doesn't really matter.

Why? Because as long as you buy a great quality company with wide economic moat that you know will increase in value over time, and you pay a price that is reasonably below the intrinsic value, you’d have done your job as an investor.

That’s it. Because you know over time you'll be richly rewarded.

However in the short term, from the time you buy to the time the share increases in value, anything can happen and it really doesn't matter.  

Let's imagine if I told you that you bought a stock today at $10 and 2 years from now it would be at $50. Would you be quite happy?

What if I then told you that after you bought it at $10 it went down to $5 before going to $50? Would you be upset? Now you shouldn't be upset, right? Because it doesn't really make a difference. The point is if it goes to $50 eventually, it doesn't matter where it goes in the short term.

The trouble is that many retail investors have this psychological fear that “what if I buy and it goes lower” - the fear of being wrong or the fear of regret that you know, “I could have bought it lower”.

And it is this fear and this desire of picking the bottom that they never ever get into a great company at a discount, causing them to miss the opportunity when it goes into a bull market.

Here’s a real life example for you right now.

If you’ve been following my YouTube channel, I posted a year ago saying that a great company to buy is Amazon because it’s a quality company that at that time was still very undervalued.

Using just a 10 year discounted cash flow valuation, I valued Amazon at $2,900 per share, almost $3,000 per share. And at that time it was selling at $1,800 per share, almost 50% discount.

I said that I know it will go up to $3000 over time, but I can’t predict when. I just know it will one day.

So what happened after that video was released? Did it go to $3000 immediately in a straight line? No!

Right from $1800 when the video was released, guess what? It dropped to $1700. That’s when some of you who may have seen my video and bought at $1800 say “Adam, you are wrong, it didn't go up and went down!”

Like I told you, no one can predict the short term direction and anything can happen in the short term.

But guess what? Today, one year later, it's at $2,400 which is almost at that intrinsic value. So in a year Amazon has returned 37.5% growth in your capital.

Amazon Stock Price Chart
Source: TD Ameritrade Thinkorswim

Now today as I've revalued Amazon based on its new earnings and growth rates, I know it is worth about $4,000 per share. So I know it's going to go to $4,000 but when, I've got no idea. So even if I buy it at $2400 and it drops to $1000 I don't care! I'm just going to buy more shares because I know it's going to go to $4,000 eventually.

Hence what happens in the meantime doesn't matter. In fact, if it drops after I buy it, that's even better because it only means I can buy even more shares at a bigger discount.

That's what happens when you know exactly what you're buying. You have done the fundamental analysis of the company and you've got no more fear.

No One Can Predict The Market In The Short Term

 History Of Bull And Bear Market
Source: First Trust

The same thing is true in an overall market perspective. Like I keep saying in the long run, the stock market always goes up.

The market is rigged to always go up, but it doesn't go up in a straight line. It goes through bull markets and bear markets.

Now since 1935, we have had 8 bull markets and 7 bear markets. From the chart above, you can see that in the long run, the market is in a bull market most of the time, more accurately 91% of the time.

And if you look at bear markets, the market could drop anywhere from 22-50% and no one knows where’s the bottom? But here's the thing, after every bear market, you will always have the next bull market again. During the Global Financial Crisis, we drop from the top down to minus 36%, so that's the time I said we are at a potential market bottom so I started buying stocks.

Could it have been possible that after I bought it makes a second bottom and drops even more? Of course anything is possible, but it doesn't matter. Why? Because even if I bought at minus 36% and it dropped to minus 50% what would I do? I'll just buy more.

I know eventually the bear market will end and when the bear market ends and the bull market begins it’s going to take us up way more. The bull market will be many more times the bear market.

Now to a more recent example. When I bought a month ago when the market was down minus 36% due to the Covid-19 stock market crash, people say Adam, but isn't there a risk that the market could go even lower? I say of course there’s a risk, but to me there’s an even bigger risk of not buying at minus 36% because if I don't buy now, what if it really is the bottom?

And if I don't buy now and it starts to go all the way up to 300 or 800%, I lose my chance of buying a great company or the index at a discount and I have to then wait another 10 years for the next major bear market to happen.

So stock investing mistake lesson number 3 - no one can predict the exact bottom so don't bother picking the bottom as long as you buy shares of great companies that you know will increase in value over time.

Similarly, as long as you buy the index, they will always go higher. As long as you buy a great business at a reasonable discount to intrinsic value, it doesn't matter. Even if it goes lower, guess what? Just buy more shares at a bigger discount, which means you're going to make even more profits when the bull market begins.

Stock Investing Mistake 4 - Buying Mediocre, Low-quality Companies

Last but not least, the final stock investing mistake is buying mediocre, low quality companies that have dropped the most.

A lot of people ask me if they should buy the airline stocks? Or hotel stocks or the oil and gas stocks? And I say, why in the world do you want to buy those stocks? The answer I get is because they’ve dropped the most.

Airlines are down 70%, hotels are down 90%. And for example, Chesapeake, an energy company fell by almost 95%!

 Energy Stock Crash Example
Source: TD Ameritrade Thinkorswim

So retail investors always think to buy the shares that have dropped the most so that it's got a bigger recovery potential. Now, I don't think that way and I don't like to buy airline stocks or hotel stocks or oil and gas stocks.

Why? Because they have been fundamentally damaged because of the crisis. Their sales and profits have gone down and will continue to stagnate for quite a long time.

Instead of buying stocks that have dropped the most in a crash. I like to buy stocks that have dropped the least during the crash. I like to buy companies whose sales and profits are actually increasing during the crisis. I call these the Coronavirus recession proof stocks. These are the stay at home stocks, because the longer people stay at home, the longer the lockdown is, these companies will continue to grow their sales and profits.

I’ve created a video covering these stocks which you can check out here. These are the companies you want to buy because they are not affected by the virus.

Among them we’ve got the MAGAF stocks - Microsoft, Apple, Google, Amazon and Facebook. These companies see their profits increase during the crisis. So you can see that by buying these five companies, when the S&P 500 rebounded, their stocks have rebounded even faster compared to the index.

So what's the lesson here? The lesson is to buy the strongest performing stocks in a crash, not the weakest performing ones, because they will rebound the fastest.

On A Last Note

And that pretty much covers the 4 biggest stock investing mistakes that cause retail investors to never succeed in the stock market. By understanding these mistakes, you put yourself way ahead of the 90% of retail investors who always lose money in the stock market.

It’s Adam Khoo here and may the markets be with you.

Airlines are down 70%, hotels are down 90%. And for example, Chesapeake, an energy company fell by almost 95%!