Investment Strategy: Are You Too Smart To Beat The Market?

by: Christiaan Casper

Summary

When investing it is easy to overthink investment decisions.

Formulate an investment strategy using formulas which have worked for you in the past.

Don't let emotions prevail over common sense.

When investing, there are so many variables which affect returns that it can become easy to overthink. Stocks may drop by 3% for no specific reason and make you wonder whether investing was the right thing to do in the first place, or you are envisioning doom scenario's which will most likely never happen. As a result you can miss out on great investment opportunities or have large piles of cash sitting in your bank account not even collecting enough interest to make up for inflation. So how do you stop yourself from becoming a victim of you own "genius"?
US inflation rate

Source: Trading Economics

Identify your winning strategy and setup investment rules

As an investor identify decisions which have worked out for you in the past. Identify what made those investments great decisions and make up investment rules based on this. Some success factors I identified for myself are investing in stocks with low price-book-ratios and diversifying my portfolio. For example, I live by the rule to never have more than 15% of my portfolio invested in 1 stock to avoid being value trapped. While I have had most success in value stocks, you might have had more success in growth stocks. And while some people swear by their long term success you might have gained all your profits from day trades.

Don't get led by your emotions

This might be one of the most important rules in investing. Ask yourself: how much money can I lose without getting upset or angry? One of the biggest mistakes at the heart of the financial crisis was investors selling their stocks at near all-time lows. This way they could not profit from the economic recovery in the stock market. I should note though, that some investors were forced to sell their stocks due to other reasons than emotions such as dealing with bankruptcy, foreclosure etc.. However, in general it is important let your rational prevail over emotions.
Nasdaq overview

This is also true for individual stocks. When they face short term distress it may be tempting to sell them off. It's important to remember why you invested in the first place and don't make irrational decisions based on emotions.

I witnessed this first hand when I bought stocks of CVR Refining LP (NYSE:CVRR) at a price of $6.80 early July last year and sold them when I got cold feet after they reached $5.78 at an almost all time low. With the stock now trading at in the $11 range, it is one of the worst investing decisions I have made in 2016. Don't let your emotions overshadow your rational thoughts.
Chart CVR Refining

Source: Google Finance

Conclusion

To be successful as an investor it is important to formulate an investment strategy which has proven itself in the past. Look at past trades and decisions and identify which rules can aid in avoiding future mistakes and help future profits. Furthermore, you should not let your emotions dictate your investment decisions because they lead you to doing irrational things. Try to stick by your decisions and even if you're facing a temporary setback don't act without thinking.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.