Human beings are moody, inconsistent creatures -- even investors. No, make that especially investors.
We've all been there. One morning you wake up and you’re feeling cavalier. Things are going well, the investing game seems easy and you’re a ready buyer. Then the market turns sour as it has recently and you decide you’re a curmudgeonly value hunter whose first thought is downside protection. Or perhaps you read an article or a bulletin board post on a share and decide you must buy it, now.
Few investors aren’t guilty of irrationality and inconsistency now and again; so how do you combat this?
Make a checklist
The best way I know to iron out my own mood swings before buying (or selling) is to have a checklist. Each investor’s checklist will be different from the next, depending on the degree of risk deemed acceptable to the individual, age, personality and a host of other factors.
To get you started, here are a few things to consider:
Always do your own research. When assessing a company, do a "Warren Buffett" and ask yourself if you would want to buy the whole business if you could afford it.
Be wary of companies with large amounts of debt. Similarly, avoid companies making acquisitions in a rush to get big. On the flip side, concentrate on companies with robust balance sheets and look particularly for plenty of cash.
Seek good quality earnings; the best companies are those that have very little need for capital. If earnings seem too good to be true, they probably aren’t.
If you don't understand exactly how the company makes its profits or what it does, don't invest.
Be cautious of companies where the boss holds a controlling stake, it may act like a private fiefdom. But on the other hand, be equally wary of companies where the Directors hold few or no shares and haven’t been buying either.
Avoid companies where the managers are paid huge amounts of money -- particularly when that pay isn’t linked to performance.
Be sceptical of managements' claims for a company’s future. Look at what a company does, not what it says. How many companies in the tech boom talked up a golden future? And where are they now? Often, management has no realistic objectivity about its own company’s prospects.
Be wary of companies continually adopting new strategies and which are continually on the verge of a new dawn.
Be equally wary of management that finds blame anywhere else other than at its own door.
Look carefully at what the management has said in the past at results time. If you sniff a little dishonesty, walk away.
If in doubt -– leave it out
Try not to make the mistake of “making” a potential investment fit your criteria. Most of us have made the mistake of deciding to buy before looking at the detail at some time. If in doubt -– leave it out, there are always plenty more pebbles on the beach.
And finally -- remember to use your own checklist, even in the best of times.
Based article on fool.co.uk