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Retirement Planning: Fixing the Most Common Mistakes March 23, 2009

Posted by retirementwithaplan in Uncategorized.
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I spoke with a young man over the weekend who announced that he he had opened his first brokerage account. I wished him good luck with his move. But I couldn’t leave it there because I knew two things in advance. First, he is currently not investing a single cent in his retirement plan, either as part of the 401(k) available at his workplace or in an individual retirement account (IRA). The second is much more subtle. He was going to use money from his tax return.

032309_cmn_mstk_2009He had already formed opinions based on what he referred to as “his research”. Analysts, or the ones he had chosen to ascribe to, do not think we have reached a market bottom and this new investor, basing his future moves on that information, was waiting for it to happen. (I, on the other hand believe that we have reached a bottom but make no predictions when we will begin the long and arduous climb back or even how long it might take.) Then, when the market reached it, he told me, he would invest.

“In what”, I asked even as I realized that he was already traveling down the wrong path, basing his assumptions on what he had heard and what he had read. He told me what he wouldn’t invest in (GM, he said was a bad investment) but like so many investors, he could not put a finger on what was a good investment. “I’m still doing research,” he replied.

Here are the five most common mistakes made by new investors and he will make each one of these, if he hasn’t already.

Believing the Narrative
Depending on who you listen to, we are headed higher or headed lower. The very analysts who cheered the rise in the stock market are looking to regain their standing as prognosticator extraordinaire by suggesting that the market still has further to fall. Savvy investors, who like him invest in individual stocks, do not care about the “markets”, only what some stocks can offer. A good investment is determined by how much you are willing to risk, how much risk you are willing to take and how well your tolerance for short-term losses is.

Setting Parameters
Few investors in this current market could predict the breadth and scope of the downturn in investor sentiment. Good investors though set their own personal bottoms (when to sell) and, conversely, their own personal highs (when to sell). Good investors rarely marry what they have purchased understanding that the reason they are in the market in the first place is to gain more than they lose. Newbie investors have little tolerance for loss and an unwillingness to sell if they believe that there is a possibility they could have made more had they simply held on to the investment. Setting these boundaries is extremely important.

Using money you DO NOT NEED
The young man I spoke with used the money he received on his tax return to open his account. This is noble but wrong-headed thinking. It is not money he didn’t need but as he reasoned, money he would have probably blown otherwise. In fact, he blew it when he failed to adjust his W-4 at work to achieve the maximum take home pay and the least amount of overpaid taxes. Allowing the government to hold your hard-earned cash, interest free for a year and then foolishly treating this “windfall” as a bonus is the first mistake he made and if you think about it, offers a window into how well he will do as an individual investor. He has, at this writing, not adjusted his 2009 earnings to fix this withholding problem.

Believing in His Own Talents
Finding the right investment in this type of market atmosphere has challenged the most savvy investors. But unlike this young man, the savvy ones have some failsafe maneuvers they can employ that are beyond his grasp. He will fail to calculate the cost of each trade (both in or out), fail to itemize those trades (logging both the purchase price and the sale price against gains) and harbor the belief that whatever he does online, in the privacy of his home, will be his business alone. He files a standard tax form that does not allow him to deduct losses but demands he report gains. Taxes are about to betray him in more ways that his investments will repay his efforts.

Little Fish, Big Fish
Believing that the markets offer fair and balanced participation for all players is fool-headed. While he is working (earning a paycheck and paying Uncle Sam more than they deserve), the markets will be in progress. This demands he be able to react – but only after the fact, after the profits have been taken and the losses have abated. News will move markets and he will be on the trailing end of those reports. More importantly, he will not have access to anymore information than what the media offers. Sure, he will get “real time” quotes and when he trades, he will stand in line to make his purchases. What he fails to realize: the longer you stand in line, the difference in price points can grow making the differences in what you pay huge. Big fish always get to eat first and little fish (although the process looks democratic and every broker will let you believe that your business is important to them) will be forced to wait their turn at the table. Forgetting that brokers make their money with every trade, they almost encourage you to get in and then out and then in again as many times as possible. Big fish pay better. Little fish simply pay and pay.

The Bottom Line in Five Moves for Beginning Investors

Fix your taxes – the government does not need your money; you do.
Fix your credit – the negative effects of what you pay the creditor acts like a tax on your investments and your future wealth.
Get involved in whatever retirement accounts that may be available to you – match or no match.
Make a budget based on those changes in income.
And start a rainy day fund – no matter how old you are.



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