The first step towards reducing the chances of committing such investment mistakes is to become aware of the most common ones.
Committing mistakes while investing can adversely impact your wealth-creation objectives, both in terms of money and the time required for wealth creation. The first step towards reducing the chances of committing such investment mistakes is to become aware of the most common ones.
These are some of the most common investment mistakes made by retail investors:
Investing without identifying financial goals
Financial goals are the monetary targets that you want to achieve over a period of time, such as accumulating corpuses for your child’s higher education, foreign vacation, retirement, marriage, etc. Setting financial goals will give you a clear idea of how much to save and invest regularly for achieving your life goals. This helps in giving a direction to your investments and creating an optimum asset allocation strategy based on your risk appetite, presumed rate of return and time horizon.
For instance, given that equities can be very volatile in the short-term but tend to outperform other asset classes and inflation by a wide margin over the long term, investments for your long-term financial goals should be made in equity-related instruments for creating bigger corpuses.
Many investors ignore the impact of inflation on their financial goals. By reducing the purchasing power of money, inflation can land you with inadequate corpuses for meeting your financial goals. Hence, make sure you factor the historical inflation trend while setting the ballpark investment amount for your financial goals. The best asset class to beat inflation while achieving your long-term financial goals is equities. Equities beat both fixed income instruments and inflation by a wide margin over the long term.
Mixing insurance with investment
The primary objective of purchasing a life insurance policy is to provide a replacement income to one’s family in case of his untimely demise. Hence, your life insurance must equal at least 10-15 times of your annual income.
Many investors often mix insurance with investment and thereby, end up investing in endowment policies and money back policies. Such insurance policies not only fail to provide adequate life cover but also generate sub-optimal returns and have low liquidity features. On the other hand, term insurance policies offer higher cover at a very low premium.
Not maintaining adequate emergency fund
The primary objective of maintaining an emergency fund is to deal with financial emergencies and meet unavoidable expenses during the period of income loss caused by job loss, disability, illness, etc. Hence, this fund should be large enough to meet unavoidable monthly expenses, including EMIs, SIPs, insurance premiums, children’s education fees, rent, etc for at least six months. Without an adequate emergency fund in place, you may be forced to either redeem your long-term investments or avail loans at higher interest rates to deal with such financial exigencies. Unforeseen exigencies occurring during market corrections may further force you to redeem market-linked investments at loss. Hence, make sure you set aside an adequate emergency corpus to meet your financial needs during emergency situations.
Getting swayed by emotions
Investors often get swayed by fear and greed while making investment-related decisions. While greed leads them to increase their investments during bull market conditions when high valuations should instead worry them, fear may lead them to redeem existing investments or stop making additional investments during market corrections when equities are available at attractive valuations.
Invest in mutual funds through SIPs to ensure disciplined investing. As SIPs inculcate the habit of regular and automatic investing, they allow you to benefit from rupee cost averaging, i.e. buying more units at lower NAVs, during market dips. Additionally, create a ‘market-crash fund’ to invest lump sum in equity funds during steep market corrections. Doing so may help make the most from lower valuations and even achieve the set financial goals sooner with lower contributions.
(The author is Senior Director, Paisabazaar.com)