The world of investing can be overwhelming. Trying to choose between thousands of stocks, bonds and mutual funds, and the numerous advisors vying for your business, can drive you to paralysis and inaction. Worse yet, you might be led astray and commit one or more of the seven deadly investing sins.
Falling into the trap of any of the biblical deadly sins — lust, gluttony, greed, sloth, wrath, envy, pride — is said to put you on dangerous moral and spiritual ground. The investing sin counterparts don’t hurt your soul, just your assets — but that's bad enough. Read on to make sure you steer clear of the investing sins that could send your finances into the abyss.
1. Lust: Choosing the Wrong Financial Advisor
Lust is an intense desire or need, particularly directed toward another person. How can lust affect your investments? Legions of talented men and women are clamoring for your investing business. But falling for a slick sales pitch and choosing the wrong financial advisor can be a major investing mistake.
“This investing 'sin' can come back to haunt you for years, so it's very important to avoid," said Neal Frankle, a certified financial planner with Wealth Resources Group and editor of financial planning blog WealthPilgrim. "The big problem surfaces when investors need objective financial advice but talk to people who can't possibly provide it — commission salespeople. You can avoid this pitfall by always asking how the advisor gets paid.” Work to find an advisor who has your best interests in mind, not his own.
Investment brokers and financial advisors compensated by commission have an innate conflict of interest because they only make money when you buy and sell securities. They might be tempted to encourage excessive trading when it benefits them more than the investor, which the Securities and Exchange Commission refers to as "churning."
2. Gluttony: Excessive Trading
Gluttony is excessive eating and drinking. When applied to investing, gluttony translates into excessive trading. Unfortunately, reams of research suggest that excessive trading leads to lower returns, not higher ones. Each trade requires you to be correct twice, once when you buy and the other time when you sell. Plus, every trade costs you a commission payment.
“Individuals with a high risk tolerance often exhibit overconfident behavior resulting in overtrading, higher commissions and lower returns within their investment portfolios,” said Victor Ricciardi, assistant professor of financial management at Goucher College and co-editor of "Investor Behavior: The Psychology of Financial Planning and Investing."
As brokerage service provider Vanguard states in its tutorial “Minimize Costs,” the lower your investment expenses, the greater likelihood you’ll achieve higher returns.
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3. Greed: Buying Into Bubbles
Greed is the excessive need to acquire and accumulate more and more. Investors can be blinded to poor investment choices by this sin.
In the late 1990s, stock prices were stratospheric. With the explosion of the technology industry, investors were seeing their investments grow by unsustainable proportions. The common mantra of the time, due to new technologies, was, “This time it’s different.”
These words are frequently spoken as markets reach their peaks. They're used to justify buying in at inordinately high stock market valuations, according to The Wall Street Journal. Yet eventually, like with the dot-com craze of the late '90s, overvalued stocks crash and investors are left holding the bag.
In fact, this investing sin has been proven to be wrong every time. Buying overvalued assets doesn’t lead to future profits. The remedy for the sin of greed in investing is to create a sensible investing plan and stick with it.
4. Sloth: Failing to Learn Basic Principles Before Investing
The sin of sloth is an avoidance of hard work and activity. Investors who are lazy in their due diligence and don’t learn about investing before diving in are at risk of losing money.
Investing, like any endeavor, requires advance information and knowledge in order to succeed. Being slothful and thinking that someone else can do it all for you is a recipe for investing failure.
“This sin is easy to avoid," said Frankle. "There is so much information that is so easy to digest that it's easy to remedy the problem. Commit to spending 30 minutes a day reading credible, objective sources from people who aren't trying to sell you anything and you'll be fine.”
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5. Wrath: Being Overly Aggressive
The deadly sin of wrath is extreme and vengeful anger. Anger is frequently associated with a lack of impulse control or recklessness. These traits can be seen in some overly aggressive investors. It's one of many ways your emotions are killing your investments.
The overly aggressive investor is attracted to risk, even to the point of seeking it out. He or she doesn’t bother with a sensible investment strategy that includes balance and diversification.
The overly aggressive investor is irrational, investing in untested market-timing schemes or strategies that promise higher-than-reasonable rates of return. This investor needs to tone it down, take a breath and choose a rational investment strategy such as a passive, index fund approach.
6. Envy: Engaging in Herd Mentality
Envy is a desire to have what someone else has. Herd mentality is the equivalent of envy in the investment world. This behavioral finance concept refers to investors who follow the crowd and invest in what’s popular without concern for valuations or one’s individual circumstances.
“Investors tend to be very sociable beings, especially during the time of a stock market bubble," said Ricciardi. "These individuals base their decisions on the first piece of information to which they are exposed, such as an initial purchase price of a stock."
"This crowd psychology causes the individual to expect a stock price to continue increasing for an unlimited time horizon," he said. "Once the bubble bursts, this will result in severe losses for the individual investor.”
A herd mentality led investors to follow the crowd and buy into the technology boom while prices were at the peak, only to watch their investments come crashing down. There have been regular, calamitous market meltdowns over the past 50 years. Avoid herd mentality by understanding your own personal risk profile, investing time horizon and stock market history.
7. Pride: Letting Ego Drive Investing Decisions
The sin of pride rears its ugly head when you think you’re better than others and exhibit too much self-esteem. Do you think you know better than others when it comes to investing? Even a seasoned investment portfolio manager needs to learn and accept that academic evidence shows it is quite difficult to beat market returns.
The best way to overcome this overconfidence sin in investing is with an accurate understanding of investing research. Read highly regarded investing books, like "A Random Walk Down Wall Street: The Time-Tested Strategy for Successful Investing," by Burton G. Malkiel.
Just like the biblical deadly sins can hurt your spiritual self, these seven investing sins can lead to a dismal financial future. With some investment research, due diligence and a smart plan, you can avoid succumbing to these financial evils.