Five Investment Mistakes You Don't Want to Make...

These are scary times for people trying to build or preserve their retirement accounts.

The daily swings in the stock market are large enough to churn anyone's stomach!

The current landscape makes it easy to commit big mistakes with your investment portfolio. Here are some of the worst errors I've seen people make, in no particular order of danger.

All are of equal hazard. Though there are no guarantees when investing, avoiding these five slip-ups can better your chances of success.

Panic: This crops up during bear markets or recessionary times like we see today. As you watch stock prices fall, you begin to believe that any price is a good number to cash out. You fear your portfolio will be lower tomorrow and lower still the next day. You believe it will never come back in your lifetime.

So you sell, hide out in cash, and wait until things turn around. Therein lies the problem: You eventually get back in after prices have raced back up. (Hmmm … sell low, buy high -- not a good strategy!)

Don't get me wrong; I understand your fear. It's OK to feel fear. After watching your retirement account fall on paper month after month, you wouldn't be human if you didn't have that strong impulse to park everything in a savings account for a while. But you must not act on that fear. If you have an investment account that is well-diversified and designed with your long-term objectives in mind, chances are that your portfolio should be left alone.

Euphoria: This is the opposite of panic and occurs frequently in times of hot markets. You watch equities surge, and all common sense goes out the window. It doesn't seem likely to you that there's a real potential for principal loss.

When you catch sight of enormous investment returns elsewhere, you worry that someone else's portfolio is outperforming yours. While ignoring principal risk, you've now entered The Euphoria Zone. It is the opposite of the phenomenon where a person thinks that any investment he touches loses money.

As the equity markets rise, investors reason that the risk of a significant decline fades away. But the opposite is true: As equity markets rise, the potential for a drop is greater than before. So as the stock market rises, it becomes riskier, not safer.

Under-diversification: This mistake is a bad one, because taking this action (or inaction) feels so logical when in fact it's setting you up for the kill. You become enthralled with today's hot sectors, confine your portfolio to what's working at that moment, and then become under-diversified.

Over short periods of time, asset classes approach their own peaks, and the universe of what's working shrinks down to one idea. In 1999-2000, that idea was technology—specifically the Internet. During the bear market of 2001-2002, the “smart” move was safety and the hot sector was cash. In 2004-2005, real estate was the investment everyone had to have. In 2006-2007, energy took over. This fatal narrowing of a portfolio down to one idea helps assure that you enter a hot investment just before it heads back down.

Chasing the sector of the moment is a powerful mood-altering drug … until you overdose. Under-diversification is for hares (read: rabbits). Tortoises are the ones who believe in disciplined diversification.

And you know who won that race. (Investors should note that diversification does not assure against market loss and that there is no guarantee that a diversified portfolio will outperform a non-diversified portfolio.)

Letting taxes drive your decision: If you own your own business like me, you are more observant of your tax situation than most people. Estimated tax payments, deductions, record keeping, and other CCRA-related exercises keep your income taxes top of mind. But you can take your attention to taxes too far.

Many people build up mini-fortunes thanks to one spectacularly successful investment that develops into a large chunk of their wealth. Then they refuse to diversify because they're afraid to pay 15% capital gains taxes. They feel that they cannot sell their $400,000 investment because if they do, they will have to pay $60,000 in taxes. That's a mistake. Focusing on the taxes causes them to forget that $340,000 in gains -- which now can be reallocated -- isn't bad at all (remember the diversification discussion above?). Indeed, most people would agree that a net $340,000 investment gain is a good situation. But if you let taxes do the thinking for you, you are asking for trouble.

Recent events at Lehman Brothers, Bear Stearns, and others emphasize my point. That's why you don't under-diversify. It's also why you don't let taxes dictate your investment decisions. It doesn't matter if you're invested in the bluest of blue chips, and it doesn't matter how long the company has been in business -- there are factors you cannot control that can negatively affect any individual holding.

The converse is also true. Some people think they can't sell because they don't want to take the loss. They will wait until they get back to where they were. The thinking goes like this: I bought Internet XYZ at $242, it dropped to $151, and now it's down to 75 cents. Let me wait until it gets back to even.

Mistake!

Your investments don't know what you paid for them and wouldn't act any differently if they did. The longer you wait to migrate to quality investments and diversify, the longer it will take for you to realize that you hold garbage. By the time your investment rises back to even (if it ever does), you might be celebrating your 99th birthday.

When you let taxes sit in the driver's seat, the car can go off the cliff.

Trying to do it yourself: As an agent, I believe that we offer a much safer and more valuable alternative compared to selling a home yourself. After all, there is significant risk when a homeowner doesn't know what he's doing, right?

This line of thinking also applies to planning and managing your finances. I've come in contact with many ultra-successful folks who are masters of their field... but ill-equipped to manage their money. This has nothing to do with intelligence or interest. But again, think of your own experience.

Remember … personal wealth is not driven solely by investment selection. It relies in large measure on investor behaviour, as illustrated by the previous four mistakes outlined in this post.

What your investments do versus other similar investments is relatively unimportant. The critical issue is what you do, and avoid doing.

With professional guidance, common sense, and a reliance on strategies that have been proven time and again, you can avoid many common pitfalls and improve your chances of meeting your future investment goals.