Every Wednesday, we publish our “Investor Toolkit” series on TSI Network. Whether you’re a beginning or experienced investor, these weekly updates are designed to give you specific investment tips and stock market advice. Each Investor Toolkit update gives you a fundamental piece of investment advice, and shows you how you can put it into practice right away.
Today’s tip: “You may learn quite a bit about investing in an investment club, but keep in mind that some of what you learn may be things you should avoid in future.”
If you’re relatively new to investing and want to learn more about how to trade stocks, joining an investment club could be a useful initiative.
Be aware, however, that there are both benefits and drawbacks.
Investment clubs can offer social and educational benefits. They can be a good place to learn about trading stocks if you think that you would feel more comfortable learning about investments with others. And some clubs let you invest as little as, say, $50 a month.
But investment clubs also have hidden risks that can hurt your profits. That’s because they make decisions by committee, where responsibility for mistakes is diffused. When committees make mistakes, they sometimes make big ones.
In addition, investment clubs can produce unexpected personality clashes and unfortunate peer pressures. What’s more, decisions formed by group consensus sometimes take on an air of legitimacy and urgency that can ultimately cost members a great deal of money.
An investment club could lead you away from a sensible, conservative investing strategy
Here’s how you might be drawn away from a solid investment strategy in an investment club.
Let’s say you join a club that picks up on one or several investment themes or fads. You could feel pressure to do the same with your personal investments. (The risk with theme investing is that you could let the theme or fad become your overriding investment consideration—and that could distract you from other measures of value and risk).
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Or your investment club could invest in ways that we don’t recommend. For instance, its members might prefer a sector rotation approach (where you underweight or overweight your holdings in certain sectors based on a forecast of the stage of the economic cycle, or other factors) or rely too heavily on technical analysis.
Our investment advice: Look for an investment club that follows a reduced-risk, conservative strategy like ours.
The best way to learn how to trade stocks with less risk within the framework of an investment club is to join a group whose philosophy has something in common with our three-part investing strategy. At TSI Network, our approach is to invest mainly in well-established, dividend-paying companies, to spread your money out across the five main economic sectors (Manufacturing & Industry; Resources & Commodities; the Consumer sector; Finance; and Utilities); and to avoid or downplay stocks in the broker/media limelight.
With this approach, you can avoid overloading yourself with stocks that are about to slump because of industry conditions or changes in investor fashion. You also increase your chances of stumbling upon a market superstar — a stock that does two to three (or more) times better than the market average.
In addition, if you do join or form an investment club, make sure that in the initial planning the group carefully creates and follows a partnership agreement and organizational by-laws.
COMMENTS PLEASE—Share your investment experience and opinions with fellow TSINetwork.ca members
How did you acquire a knowledge of investing? Knowing what you know now, what do you think is the best way to learn how to invest productively?
Note: This article was previously published on January 2, 2012.
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