Around Valentine's Day, it's tough to go 10 minutes without hearing someone spout a famous saying about love. Love makes the world go 'round. All you need is love. Love conquers all.
If you're talking about romantic love, I'm inclined to agree -- love is indeed a wonderful thing.
But if your heart starts to flutter at the mention of a certain stock, take note: When it comes to investing, 'tis better never to have loved at all than to have loved and lost.
Note to self: Cancel gym membership
People in love often overlook their partner's flaws, even when these imperfections are obvious to others. For purposes of propagating the human species, this is a good thing. However, for investors, the inability to objectively assess a major holding is a recipe for disaster.
To be a smart investor, you must base your buy and sell decisions not on sentimental concerns but on a company's fundamentals. Here are a few tips from real-life relationships that will help you remove emotion from the investing equation.
Date around
When you're talking about marriage, sticking to one partner isn't just a good idea, it's the law. But if you're a monogamous stock investor, you're exposing yourself to unnecessary risk. Likewise, if a single stock makes up a large portion of your portfolio, your ability to make rational buy and sell decisions may be compromised.
Fool co-founders David and Tom Gardner recommend that investors split their money into a minimum of 10 to 15 diversified investments. Don't concentrate your assets in a single sector or investment type; be sure to balance your exposure to the market's various flavors -- small cap, large cap, growth, value, international, and domestic. Want instant diversification? Try a low-cost broad-market index fund like Vanguard Total Stock Market (FUND:VTSMX), which tracks the performance of the U.S. stock market. This strategy will help protect your portfolio from turbulence in any market sector or individual stock.
Test the water
Would you propose to a potential partner after your first date? Of course not -- even Pamela Anderson and Tommy Lee waited four days before they got married. So you're convinced you've found the next big thing? Devote at least a day or two to due diligence before you take the plunge. Read the company's financial statements, research key competitors, and scan The Motley Fool's discussion boards and CAPS commentaries to see what other Fools think of your "sure thing."
And when you do decide to buy a stock, don't rush to the altar. David and Tom recommend buying in thirds -- building your stock position in portions, rather than all at once. This strategy ensures you'll have cash set aside to take advantage of temporary price dips (but try and keep your discount brokerage fees to less than 2% of your purchase amount).
Breaking up is hard to do
Just because you're a long-term buy-and-hold investor, you shouldn't be married to your stock selections. According to the Foolish founders, there are four circumstances that warrant a sell decision:
- Business prospects have changed for the worse.
- Management is suspect.
- A more enticing opportunity appears.
- The stock has become overvalued.
When you develop an emotional attachment to a stock, it can be difficult to know when to pull the plug. Many shareholders experienced phenomenal unrealized gains during the "dot-com bubble" in the late 1990s, yet how many of these investors listened when luminaries such as Warren Buffett and Alan Greenspan suggested the market was overvalued? Furthermore, how many investors could bring themselves to sell shares after these stocks turned south?
Consider an investor who received shares in Sirius Satellite Radio (NASDAQ:SIRI) for Valentine's Day in 1997. After about three years, Sirius was up more than 10-fold! Fast-forward to Valentine's Day 2003, though, and the stock price is down nearly 99%. Finally fed up with his former flame, our investor unloads his position and swears off Sirius for good -- only to miss out on a 384% rally!
Examples of buying high and selling low are all too common when emotions and investing are involved. Many investors experienced a torrid love affair -- and a bitter breakup -- with the stocks below.
|
Company |
Total Return, |
Total Return, |
Total Return, |
|---|---|---|---|
|
Cisco Systems (NASDAQ:CSCO) |
838% |
(79%) |
101% |
|
Sun Microsystems (NASDAQ:SUNW) |
954% |
(93%) |
94% |
|
Yahoo! (NASDAQ:YHOO) |
5,695% |
(89%) |
224% |
Love's lessons learned
The smartest investors detach emotion from their investment decisions by:
- Diversifying their holdings.
- Doing due diligence.
- Dumping their duds.
If you can't be objective when you're going it alone, form a relationship with Stock Advisor for the next month -- for free. Since inception nearly five years ago, David and Tom's recommendations are beating the S&P 500 by more than 39 percentage points on average. And in addition to a slew of market-beating stock ideas, you'll have full access to a community of Fools offering independent advice and analysis. Click here to sample Stock Advisor risk-free for 30 days.
If you are an athletic girl who likes Led Zeppelin, Rich Greifner would love to be your valentine. He does not own shares in any of the companies mentioned in this article. Yahoo! is a Stock Advisor selection. The Motley Fool has a disclosure policy, outlined here.
