Seven simple points can help you avoid investment-portfolio pitfalls

Deborah Leahy

October 2011

When it comes to evaluating your portfolio’s performance, many people think “gains are good and losses are bad,” which is generally true, but you could find that making investment decisions on that basis may lead to some problems.

Here are seven of the most common mistakes you can try to avoid when analyzing your investments’ performance.

Evaluating performance over a short period of time: People tend to buy investments that have performed well and sell those that have performed poorly over the short term. This habit of “buying when you feel good and selling when you feel bad” can be the equivalent of buying when prices are high and selling when prices are low.

Blaming the manager/financial adviser for factors beyond his or her control: Has the value of your investment fallen because it’s a bad investment or because the overall stock or bond market fell? Market declines are an inevitable part of the investing process and not a reason to sell quality investments. Assuming poor management or bad advice is the reason for your investment’s decline can be a mistake.

Failing to consider the impact of money moving into and out of the account: A proper assessment of your portfolio’s performance will factor in the amount of money being invested and withdrawn. If you don’t do this, you could come to the wrong conclusions about an investment’s performance. Be sure to consider its cash flow.

Looking backward instead of forward: The legal disclaimer appearing on nearly all investment literature states that “past performance may not be an indication of future results.” This statement should be etched on the minds of every investor. When recent performance is strong, investors think it will last forever. However, after long periods of underperformance, people tend to abandon investments instead of holding for the long-term, only to miss out on potential opportunity.

Failing to account for income: The primary investment goal for most people is to have enough money to live comfortably in retirement. To meet that goal, you should own investments that generate enough income to cover bills and any extra activities you want to pursue. You’ll probably own fixed-income investments and equities, both of which can pay income. Equities tend to pay a lower rate of income but offer the potential to grow over time through dividend increases. Remember that dividends can be increased, decreased or eliminated at any point with or without notice. Investors who understand this should realize performance comes from not only growth, but also income.

Having unrealistic expectations: Wide price swings in the stock market can be difficult to stomach. Equities can be particularly uncomfortable to own when the news is bad and the market is down. However, owning quality equities can provide the potential for growth. The key is to make sure you have a long-term perspective. Failing to take risk into account: Some people buy riskier investments after the market has risen and safer investments after the market has dropped. This approach can significantly reduce long-term investment returns. Riskier investments will likely experience wider price swings. The opposite is true for more conservative investments.

With these seven points in mind, make sure you regularly review your portfolio with your financial adviser and talk about rebalancing as needed, which can reduce risk and help keep you on track to meeting your long-term goals.

Deborah Leahy is an investment adviser with Edward Jones, specializing in assisting seniors.