In one word, how should one go about getting into the stock market game?
Slowly – VERY slowly. This analogy should explain why. Imagine that you have just obtained a license to drive a motorcycle, and you are already at the store, speaking with the salesman. Paperwork is signed, and then you leave the store, put your helmet on and hit the gas trying to squeeze the maximum speed out of the brand new engine. Are your actions prudent?
Another scenario with a different setting. It is a casino this time. You are slightly drunk (euphoric) and slightly overconfident. The sounds of gingling coins gushing out of the machines are music to your ears. You get into the gambling mode, and a while later your pockets feel much lighter. Without giving it any thought you head
over to the ATM for more money.
It is easy to see the point. Both scenarios outline what goes on in the minds of many amateur investors when they initially get exposed to exciting world of stock market investing, to the sexiness and the constant buzz of the action around them. A bit of history would not hurt. A real gamechanger for individual investors was a securities deregulation of May 1st of 1975 when the US government alllowed brokerage firms to either increase or decrease commissions within a range. This deregulation gave birth to discount brokerage industry, and the role of traditional stockbrokers as advice givers and handholders began to decline. Then, in the mid 90s, online trading was born, and brokerage commissions dropped even further. For many of us investing in stocks became a sort of a video game. The only difference (and a big difference, indeed) was that when one loses in a video game – there is a choice to restart the level, but a similar feature is not in place for stock trading. Going back to the beginning of our conversation, investing became a form of gambling when a casino boldly stepped into millions of living rooms and got a warm welcome. The dot com bubble was getting bigger, and the biggest fear of the time was to be left out of the action – to miss out on buying the next hot “dot com.”
Let us fast forward the events by ten years. Financial crisis seems to be over, but many investors, both individual and institutional are still licking their wounds. After all, between the high of October, 2007 and the low of March, 2009 S&P 500 one of the most watched US market indices, dropped over 57%. There are dosens well written books floating around that explain what went wrong, how it started and who is to blame. Reading them makes for great entertainment, but before the bubble started deflating – there was an equal amount of talk in the media about “soft landing” with a possible “mild recession.”
Ultimately, there is nothing soft or mild about entering into a field overcrowded with professional traders and money managers. Trading stocks appears easy, and colorful trading platforms create a false feeling of security, but at the end of the day becoming a well rounded investor is a multi-step process. We have numerous gaps in our knowledge of the markets, and these gaps tend to get exposed at exactly the wrong moments. On the other hand, the process of becoming a successful investor involves lots of reading, learning and making countless mistakes. Knowledge of psychology, economics, math, statistics, accounting and finance gradually blends together to form the base for victory, but riding a motorcycle at high speeds and gambling is best when done rarely and with supervision. It is safer this way.