Buying shares? Don’t fall prey to this commonly disastrous mistake

“The share market is a scam!” “It’s rigged!” “Only the experts win at this.” I’ve heard all kinds of dismissive conclusions from people who tried buying shares and decided it’s not for them. It almost always boils down to one common mistake — a factor that, if properly considered, can pave the way to successful long-term investing.

How do I know if investing is worth it? It’s really quite simple. Take a look at the chart below.

Any investment in the S&P/ASX 200 Index (ASX: XJO) before February 2024 has grown in value. Yes, that means some investments made between February and today would be in the red. But that perfectly illustrates the market in itself.

The share market rewards the patient.

Yet, so many let this one dangerous approach derail the compounding train before it leaves the station.

Eyes bigger than one’s stomach

Ever heard of the saying ‘Never go grocery shopping when you’re hungry’? The same can be said for buying shares.

Our brains like to exaggerate. It’s how all-you-eat buffets make money — taking the arbitrage between what a customer thinks they can eat (and are willing to pay for) and what they can actually eat. More often than not, the eyes are bigger than the stomach.

To save yourself money and a bellyache, it’s important to know how hungry you are truly.

It turns out there’s a form of appetite in the investing world, too. It’s called risk appetite, sometimes referred to as risk tolerance. And instead of it being how many burgers you can stomach, it’s how much money you can lose without getting queasy.

Risk appetite works both ways, not just the ‘upside risk’. As you creep up along the risk curve, the prospect of losing money is real. Yet, many fixate on the ‘higher expected returns’ part and neglect the negative implications.

I hear stories repeatedly about people buying a speculative ASX small-cap because they think it ‘might’ return tenfold. Twelve months later, nursing a 90% loss, the same people swear off buying shares.

However, investing was never the problem. It was the lack of consideration given to their risk appetite.

Buying shares is like building a meal plan

What can you afford to consume based on your own personal circumstances?

Everyone faces a different situation. To milk the nutrition analogy further, someone with medical issues may need to consume less sugar than someone with a clean health bill. Some simply can’t stomach dairy due to intolerances.

Now imagine sugar and dairy are your speculative and growth investments. They may not fit into someone’s investment diet, and that’s fine! There are more ways to earn a return with defensive shares or blue chips.

What matters is asking yourself the question honestly before buying shares.

You don’t want to be halfway through the metaphorical investment cheesecake when you discover you are dairy intolerant.

The post Buying shares? Don’t fall prey to this commonly disastrous mistake appeared first on The Motley Fool Australia.

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Motley Fool contributor Mitchell Lawler has no position in any of the stocks mentioned. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.