In our latest series of posts we've been looking at common mistakes that some fund investors make. I'd like to close this series by looking at our 9 investment lessons for success. By trying to avoid these mistakes and adhering to the lessons, you'll give yourself a much better chance of reaching your financial goals on time.
Our key investment lessons
Lesson 1: Aim to outperform the market
With investing, it’s vital to have a compelling goal and essential to have a deadline. Knowing what you now know about extended life expectancies and the dangers of being ‘too conservative’, my suggestion would be to set your deadline extremely far into the future, allowing you to be ‘more adventurous’ with your investing. As we discussed last week, those who don’t invest for growth could end up running out of money during retirement.
Our suggestion would be to set a goal to ‘beat’ the market. You don’t have to beat it every year because trying to do that will be virtually impossible. Instead your goal should be to beat the market over the long-term. Remember though that outperforming the market over a long period of time will be extremely difficult to achieve. However, it is possible, especially if you get some specialised help from those who have proved they can beat it. When an investor is successful in ‘beating the market’, it helps them to achieve higher returns and improves their chances of achieving their long-term objectives.
Lesson 2: Get in sync with market direction
The rule is three out of every four funds move in the same direction as the market and that means, unless you get in sync with the market’s trend, it’s going to be hard to make any headway. We’ve found that the best way to determine market direction is to look at charts.
As you’ve heard, price and volume charts help you to see what the professionals are doing so that you can follow in their footsteps. We watch the price and volume activity each and every day because the market’s health and direction can change very quickly. That means if something changes, you can act swiftly and decisively.
Lesson 3: Buy growth funds managed by star-performing managers
In our opinion, past performance - both long-term and short-term - is the most important element in fund selection. We like to check to see the start date of the present fund manager and check their performance record versus the Nasdaq. We look for proof that they have outperformed the Nasdaq over the long-term.
Once we’ve checked long-term performance, we look at short-term performance because some star-performing managers will not always be in ’the money flow’. We want to see what the Nasdaq has returned recently and see if the manager has beaten it. For example, if over the last three months the Nasdaq has made a 10% gain and the fund we're analysing has moved up 15%, it means the manager is ‘in the money flow’ right now. It means they are probably holding the stocks that are currently leading the market higher. That’s good.
Lesson 4: Accurately time your buys and exits
The first thing we do before even considering buying is make sure that the market is confirmed in an uptrend and we do this as you’ve heard by analyzing stock charts. Once we're happy that the market is in an uptrend, we look to buy the fund if it can successfully break out past its ‘pivot’ or ideal buy point. We would exit a fund for one of two reasons. The first is when it has been underperforming the market over a sustained period of time. The second is when a downtrend had been triggered.
Lesson 5: Keep it simple
We like to keep things simple and we do this in two ways. The first is that we trade infrequently and secondly we try to never own more than five funds. We generally make about one or two switches per year to our portfolio which means we keep it simple and we keep it time friendly. Amateur investors are generally impatient and make the mistake of too much trading due to their funds not doing what they thought they were going to do. This can increase their costs and hurt their overall returns. Many investors own far too many funds, often ten or more which is also a mistake due to the time needed to manage them effectively.
Our suggestion would be to try to not own more than five funds at any given time and always give your funds a chance to breathe. Giving your funds the chance to breathe means you’ll be less likely to overtrade. Also monitor your fund or funds performance versus the market and understand the direct relation between the market direction and your fund direction. In other words, if the market is heading lower, it’s perfectly natural for your fund to head lower too.
Lesson 6: Stay fully invested during bull markets
We’ve made the mistake myself of trying to time the corrections inside bull market periods and we’ve failed miserably. It was a hard and costly lesson to learn but it’s served us well. During bull markets, smart investors stay put and remain fully invested. Our rule is to never exit a bull market, even when we believe a correction is imminent. We only exit into a Cash Park when we believe the bull market has finally run its course. This means that even though the indexes will always correct during a bull market, we will always sit tight.
However, sitting tight does not mean staying invested in funds that are underperforming. Even though we will remain fully invested during a bull market, we keep active. That means over the course of a bull market, which tends to last two to four years, we will be making switches in our portfolio, constantly pruning and getting out of any laggard funds and switching into funds where we see the money flow and future growth potential.
Lesson 7: Move into a Cash Park when a downtrend has been triggered
When we notice that the market trend has changed from up to down, we bank profits by switching out of our investment funds and into a Cash Park. This helps to protect against future losses because of the trend change. This is when we sit, wait and be patient. Bear markets don’t last as long as bull markets and so we're normally parked in a cash-based fund for no longer than nine to eighteen months. By parking your money in cash on a temporary basis, it means that even if the market crashes, your money will be safe. In fact, even though most equity funds will be dropping like stones during the downtrend, a Cash Park will actually be rising in value.
Lesson 8: Measure and manage
We like to carefully document and review our investment record. The important thing to remember is to always look at your ‘total’ portfolio return and, as you recently discovered, this is easy to do. Use ‘smart’ strategies to manage your portfolio, such as teaming up with a professional you trust who can guide and navigate you through both the good and difficult market conditions. Also put in the time to discover how the stock market really works, educate yourself in market history, brush up on technical analysis, see portfolio losses as a temporary inconvenience and always try to keep your emotions in check.
Lesson 9: Set up a withdrawal program upon reaching your objective
Is your goal to create an income for life? Creating a lifetime income is possible if you take the appropriate action to increase your chance of success. When reaching a long-term target, which could be anything from £500,000 to £15 million or even more, you can set up an automatic withdrawal plan from your ISA and SIPP accounts to pay you an income in order to fund your lifestyle.
The guideline rule is to take out a smaller percentage than the rate your account is growing at. If you had been making 8% per year over the long term, the guiding rule would be to withdraw maybe 3% or 4%, ensuring that your retirement pot would continue to grow. If you continued to stick with this simple formula, you would eliminate the risk of running out of capital and at the same time create a continuous stream of lifetime income.
Have you made any of the seven mistakes we've highlighted in our recent posts? Don’t be too hard on yourself if you have because it’s very difficult to avoid all the obstacles and challenges that investors face – even for the most experienced of investors. Many investors simply don’t have the time to process the vast amount of information available today and then apply it to their personal complex investment needs.
Hopefully our 9 investment lessons for success will have helped give you more insight into our approach to investing and will have maybe given you some ideas that you could put into practice. If you would like some one-to-one help and guidance, feel free to get in touch. Our clients kindly say that my brother Paul and I are incredibly friendly, caring and highly responsive to their questions and requests for help, support and guidance. What’s more, if you call or get in touch, I promise that you won’t be charged a penny.
As always, if you have any questions or thoughts on the points I've covered in this post, please leave a comment below or connect with us @ISACO_ on Twitter.
ISACO is a specialist in ISA and SIPP Investment and the pioneer of ‘Shadow Investment’, a simple way to grow your ISA and SIPP. Together with our clients, we have £57 million actively invested in ISAs and pensions*.
Our personal investment service allows you to look over our shoulder and buy into exactly the same funds as we are buying. These are investment funds that we personally own and so you can be assured that they are good quality. We are proud to say that by ‘shadowing’ us, our clients have made an annual return of 12.5% per year over the last four years** versus the FTSE 100’s 7.4%.
We currently have close to 400 carefully selected clients. Most of them have over £100,000 actively invested and the majority are DIY investors such as business owners, self-employed professionals and corporate executives. We also have clients from the financial services sector such as IFAs, wealth managers and fund managers. ISACO Ltd is authorised and regulated by the Financial Services Authority (FSA). Our firm reference number is 525147.
*15th November 2012: Internal estimation of total ISA and pension assets owned by ISACO Investment Team and ISACO premium clients.
**(31st December 2008 - 31st December 2012).
ISACO investment performance verified by Independent Executives Ltd.