Why Investors Are Wrong

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The past year hasn't been much fun for investors. Worries over the devastation on Wall Street and the stumbling economy have sent the market into a nosedive. While some observers have predicted an imminent pullback for a while now, the market's rapid, deep plunge is enough to panic any rational investor. But in this environment, Fools should stay strong and avoid the mistake so many others are making right this minute.

Running scared
When stocks head south like they have recently, the logical response is to dump your stocks and head for the hills. No one wants to watch hard-earned money be eaten away by uncontrollable market forces. In this situation, it feels right to do something; just watching from the sidelines can be agonizing. But when investors do take action, they almost always run away from the market.

In fact, in October, mutual fund investors withdrew over $72 billion from stock mutual funds, marking the single largest week of outflows in more than six years. Of this $72 billion figure, $47 billion came from funds invested primarily in domestic equity securities. October's outflows even surpassed the previous record high of $52 billion in July 2002. You can say this much for U.S. investors -- they really know how to panic.

Buy low, sell high
But making investment decisions in a panic can lead to some common mistakes. Think back to that classic investing tenet: Buy low, sell high. It's a simple recipe for investment success. But when you start to sell off after a significant market decline, you're violating that very rule. Why would you sell after the price of something has gone down?

The ideal time to sell is at a market peak, or after a stock has had a significant run-up. But it's much harder to sell when your investment has had a 45% gain in the past 12 months, and you're hoping it will do so again this year. No one wants to sell when stocks are doing well, but that's the only time it makes sense to do so.

If you have a stock that you liked a few weeks ago at $40/share, you should like it even more now at $30/share. Market dips are an excellent buying opportunity. Stocks are more affordable, and eagle-eyed investors can snap up some good bargains.

It may seem kind of scary to buy when everyone else is selling, but that's the step most investors miss. Going against the grain during times of market extremes can be an investor's smartest move.

Thinking long-term
Mutual fund investors' last course of action in this sort of environment should be pulling their money from equity funds to stick it somewhere "safe," like a money market fund.

According to the data above, many investors are making this exact mistake. Keep your focus on the long term, and try not to let a temporary market plunge distract you.

In fact, if you have some money sitting on the sidelines, now might be a good time to put that cash to work in a quality mutual fund. Whether you prefer growth or value investing, there are funds and ETFs that can make things easy.

What to do now
If you are looking for an inexpensive entry into the growth corner of the market, you might want to consider the PowerShares QQQ Trust ETF (Nasdaq: QQQQ  ) . It holds positions in several attractively priced growth stocks, including Intel (Nasdaq: INTC  ) , Oracle (Nasdaq: ORCL  ) , and Apple (Nasdaq: AAPL  ) .

On the value side, an ETF like the iShares Russell 1000 Value ETF (IWD) gives you instant access to big-name stocks like ExxonMobil (NYSE: XOM  ) , AT&T (NYSE: T  ) , and JPMorgan Chase (NYSE: JPM  ) .

Stocks such as these stand an excellent chance of outperforming in the near future, and they're all a lot cheaper now than they were earlier this year.

Living through market downturns and the resulting panic is never fun. Just remember not to think like all of the other sheep in the market. Don't sell off when the going gets tough, and use market downturns to pick up some attractively priced investments. You'll thank yourself for it when the market calms back down.

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This article, written by Amanda Kish, was originally published on Aug. 17, 2007. It has been revised by Dan Caplinger, who owns shares of PowerShares QQQ. JPMorgan Chase is a Motley Fool Income Investor pick. Intel is a Motley Fool Inside Value recommendation. Apple is a Motley Fool Stock Advisor selection. The Fool owns shares of Intel. Try any of our Foolish newsletters today, free for 30 days. The Fool's disclosure policy always keeps a level head.

Read/Post Comments (2) | Recommend This Article (7)

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  • Report this Comment On December 09, 2008, at 4:55 PM, BoBoMan3 wrote:

    I read your article "Why Investors Are Wrong" with wry amusement today.

    So investors should not take their money out of the market by your advice. (if they have any money left that is)

    I had new cash to invest in September. By your advise (along with countless others who said do sell now you will be loasing all of that money) I should have invested that money at the beginning of October aftr a few down days on the market, that way I could have lost about 50% of my money!

    How about selling at the start of the down turn and waiting on the sidelines until the market starts to go back up before buying back in.

    Take for example QQQQ one of your hot picks. Mid Sept it was at $43 The first of October it was $36.75 I guess I just didn't see this as a buying oppurtunity, now it is $30.00. Is thsi the buying oppurtunity you are talking about or should I wait until it hits $24.00 in early January.

    I will come back ealry January to see how well you fair in your advice.

  • Report this Comment On December 13, 2008, at 7:04 AM, wuff3t wrote:

    "How about selling at the start of the down turn and waiting on the sidelines until the market starts to go back up before buying back in."

    What is your prediction for when the market starts to go back up? Precise date, please....

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