What “investment advice” should you take?

Everyone seems to have investment advice for the novice investor, ranging from the obvious (but unhelpful) “buy low, sell high” to widely practiced investment strategies like diversification and “dollar averaging”. In this blog, I will highlight 3 of the more common advice that you might come across and discuss their merits (or lack thereof).

“Ride the momentum” - Entire books on technical analysis have been written to try to capitalize on the momentum of the movement of the prices of equities. Prices are inherently due to market sentiment, and market sentiment tends to be sticky, hence creating the phenomenon of price momentum. However, it is important to note that trading solely based on momentum would require frequent trades and the cost of trading in that manner is probably prohibitively high. That said, one can always try to incorporate momentum when making trades that you have already decided to make (i.e. buy and sell in strings to capitalize on the effects of momentum).

“Re-balance your portfolio yearly” - One of the biggest pitfalls for novice investors is that they don’t re-balance their portfolios at all. Hence, in order to make it easier for them, some financial advisers recommend that they re-balance their portfolios once a year, probably on a significant date so that they don’t forget. However, it is important to note that markets can move significantly in days, hours, or even seconds. An outperform stock that you bought at a great price would become an underperform stock once the price increases significantly. It should then be sold and replaced by another stock that is expected to outperform. This should be done based on the movement of stock prices and not on an artificially set date.

Invest in what you know” - This is one of the advice that seems to make sense intuitively. Why would you not want to invest in something you know about, and invest in things you are not familiar with? The main issue that I have with this advice is that it tends to affect how diversified your portfolio is, both in terms of industry and location. Take the example of a computer engineer. His/her job (which probably forms the bulk of his/her income) is already deeply tied to the computer industry. Investing heavily in this industry (unless there is very good actionable information short of insider trading) would leave the engineer very exposed and not diversified enough. The same principle applies to location as well; from a diversification standpoint, it is much more prudent to invest in different markets other than your home country as your income and well-being is already closely tied to the geopolitical stability of the country. That said, my advice is not to invest randomly or wildly, but rather attempt to “know what you invest in”.

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