Be prudent and don't take the market at face value
Here are five of the best mistakes prevalent in investing.
1 Focusing only on the numbers One of the most common investing mistakes is to concentrate only on a stock's financial data.
The big four banks, for example, all carry forecast dividend yields of about 6 per cent, and price-earnings ratios of about 14-15. Based on numbers, they're closely matched.
When you consider the risks entailed in ANZ's Asian expansion and National Australia Bank's aggressive push for market share, however, the numbers suddenly don't seem to tell the whole story.
These qualitative factors are why we favour Commonwealth Bank and Westpac over ANZ and NAB.
2 Mistaking permanent declines for temporary ones When businesses hit rough patches, it can be a great time to buy.
We've had positive recommendations on Aristocrat Leisure over the past few years for this reason. While a poor product line-up and the strong Aussie dollar were all hurting Aristocrat in the short term, we expected this business to perform well in the long run.
If profits stayed permanently depressed, we'd have overpaid for Aristocrat. However, things are slowly turning around.
3 Buying low-quality businesses Unfortunately, high-quality businesses are seldom cheap. Value investors therefore often end up with portfolios full of cheap but low-quality stocks, entailing greater risk.
It's better to fill your portfolio with high-quality businesses, especially if you're patient and buy opportunistically.
4 Neglecting economic considerations "If you spend more than 13 minutes analysing economic and market forecasts, you've wasted 10 minutes." Ever since uttering that sentence, fund manager Peter Lynch gave value investors a free pass to ignore the economy. Or so they thought.
You can't completely ignore the economy, but the success of your investments should never rely on specific, short-term forecasts.
An investment in Rio Tinto, for example, hinges largely on the continued strength of China's economy. That's an economic forecast we're not willing to gamble on at current prices.
An appreciation of cycles should underpin your stock purchases and disposals.
5 Ignoring the market A healthy scepticism of the market's wisdom is vital.
When you're right, the rewards can be enormous. The market wrote down RHG Group from $0.95 to $0.05 before Intelligent Investor Share Advisor's positive recommendations were vindicated.
But when you're wrong, it can be bad. Backing ourselves explains why we were too late in pulling the pin on Timbercorp. Share-price movements should never influence your analysis. But they can offer a timely prompt to reconsider your thinking. When you're going against the grain, make sure you know why you disagree with the market.
This article contains general investment advice only (under AFSL 282288).
Nathan Bell is the research director at Intelligent Investor Share Advisor, shares.intelligentinvestor.com.au
Frequently Asked Questions about this Article…
Value investing means buying an asset for less than its underlying value. Done well, the approach is considered successful and relatively safe because the logic — paying less than intrinsic worth — is straightforward and has a long track record when applied carefully.
Common value investing mistakes include: focusing only on the numbers (ignoring qualitative risks), mistaking permanent declines for temporary setbacks, buying cheap but low-quality businesses, neglecting broader economic and market cycles, and either blindly following or completely ignoring market sentiment.
On headline metrics the big four banks look similar — forecast dividend yields of about 6% and price‑earnings ratios around 14–15. But investors should also weigh qualitative risks: for example, ANZ’s Asian expansion and NAB’s aggressive market-share push create different risks compared with Commonwealth Bank and Westpac, which is why the article’s author favours Commonwealth Bank and Westpac over ANZ and NAB.
Short-term problems can be buying opportunities if the decline is temporary. The article notes Aristocrat Leisure faced issues from a weak product line-up and a strong Australian dollar, but was expected to recover long term. The key is distinguishing temporary setbacks from permanent profit declines — if earnings are permanently impaired you may have overpaid.
High-quality businesses are rarely cheap, so a value approach can lead to portfolios full of cheap but low-quality stocks. Those stocks carry greater risk. The article advises prioritising high-quality companies and buying opportunistically and patiently rather than filling a portfolio with low-quality bargains.
You shouldn’t rely heavily on specific short-term economic forecasts. The article highlights that some investments — for example Rio Tinto — depend on big economic factors like China’s economy, and the author is unwilling to gamble on that forecast at current prices. Instead, understand cycles and let that understanding underpin buy and sell decisions.
A healthy scepticism of the market is important: when you’re right the rewards can be big (the article cites RHG Group), but being wrong can be costly (the Timbercorp example). Share-price moves should not replace your analysis, but they can be a useful prompt to revisit your assumptions. If you go against the market, make sure you understand why you disagree.
The article is general investment advice only (under AFSL 282288). It was written by Nathan Bell, research director at Intelligent Investor Share Advisor (shares.intelligentinvestor.com.au). It’s not personalised financial advice, so investors should consider their own circumstances before acting.
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