Millions of investors are usually lured by fascinating returns delivered by the bull market – a market which demonstrates a sustained rise in share prices. But, investing in a bull market requires a lot of courage as corrections and bull markets go hand in hand, with top performers being hit the most in case they are not adequately positioned during a correction. One should be extra conscious while investing in stocks in a bull market.
Given this backdrop, let us discuss five mistakes an investor should not make while investing in a bull market:
Don’t be Overconfident
It has been observed that every investor tends to assume himself a genius in a bull market, which is the root of overconfidence. Having a misleading and false evaluation of intellect, skills or talent lands an investor into trouble, making him prone to make investing mistakes.
In a bull market, one of the most common mistakes investors commit is buying high, incorrectly attributing trading successes to their own abilities. However, it is worth considering that successes in a dramatic bull market are majorly because of market conditions rather than investors’ own abilities.
Overconfident traders trade excessively with this assumption, which generally results in significant underperformance of stocks they invested in.
One can possibly avoid this kind of mistake by being aware of one’s risk tolerance and making sensible decisions aligned with the investment goals. Taking an advice from a financial expert or working with a financial planner also seems to be a good idea.
Avoid Herd Mentality
When markets are rising furiously, every investor wish to buy stocks; however, one cannot have prudent knowledge of each and every sector, hence end up following a herd mentality while taking an investment decision.
Thus, an investor gravitates toward the securities being bought by the other investors rather than performing their own analysis. Such a mentality is usually driven by the fear of missing out (FOMO) or fear of being left behind as other investors will realise considerable gains.
Moreover, this conception is driven by the belief that so many investors cannot be wrong in making an investment choice.
Herding to a particular stock results in a huge rise in the price of that stock, making it apparent that its price is too high for its fundamentals; however, FOMO induce investors to invest until the asset bubble bursts.
As it is difficult to have in-depth knowledge of every industry and successfully evaluate stock fundamentals and technicals, investors can benefit by staying within their chosen areas of emotional and competence style.
Don’t Overlook Fundamentals While Investing
Instead of keeping a track of only price movements, it is imperative to determine the overall well-being of the firm before investing in its stock, which can be assessed by conducting a fundamental analysis.
Such analysis involves estimating a company’s value via its attributes, looking at key financial metrics/ratios, peer comparisons, taking into consideration both quantitative and qualitative aspects. It helps investors ascertain the potential of a stock to deliver huge returns.
For instance, if a company has a viable business model, a broad-customer base, competitive advantage deals in an industry with a strong growth potential; the prospects of its share price to continue rising is quite high.
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Anchoring can Curb Your Returns
While investing in a bull market, investors generally get attached to a particular piece of information and end up making an irrational investment decision. In this case, investors rely on a single information (anchor) and build their sense of value based on that information.
There are numerous studies available that validate that investors tend to adjust their anchors insufficiently contingent on their chosen anchor and produce biased end approximations.
For instance, if an investor selects a stock on the basis of just its 6-month or 1-year return (which is quite high), his anchor is the outperformance, which made him biased towards that stock. The anchor can unintentionally hinder an investor’s ability to effectively build his investment portfolio.
Be Mindful of Base Rate Fallacy
Another key mistake an investor commits while investing in a bull market is falling into a base rate neglect or base rate fallacy trap, under which he judges the probability of a situation without taking into consideration all the relevant data. In simple terms, the base rate is the frequency at which an event occurs.
Base rate fallacy occurs when investors place too little weight on the original rate or base of possibility and instead, focus more on the new information without recognizing its impact on original assumptions.
Moreover, sometimes investors also overestimate the base rate of some events, which also leads to poor investment decisions.
In a nutshell, investors are typically better positioned to earn long-term gains in the equity market if they leave their fears and greed outside the door and instead follow a disciplined investment approach.