Review: The 5 Mistakes Every Investor Makes and How to Avoid Them

Modified on September 20, 2018

“Investing is simple unless we complicate it” is the basic theme of “The 5 Mistakes Every Investor Makes and How to Avoid Them” by Peter Mallouk. Peter highlights that “what not to do” is as important as “what to do” in investing. Whether the investor is a finance expert or a common person, Peter’s observations are equally relevant and his easy to understand solutions are highly beneficial.

Peter Mallouk, an asset manager in US, says there are five mistakes that most investors make, which hurt their portfolio performances:

  1. Market Timing
  2. Active Trading
  3. Misunderstanding Performance and Financial Information
  4. Letting Yourself Get in the Way (Emotions & Biases)
  5. Working with the Wrong Advisor

 

Book Review of The 5 Mistakes Every Investor Makes and How to Avoid Them by Peter Mallouk

Peter points out how most investors knowingly or unknowingly, try to time the market. It might be by saying, “I have cash on the sidelines and I am just waiting for things to settle down” or “I have a bonus but I’ll wait for a pullback”. Nevertheless, they are trying to time the market. None of the Investors in the entire history of stock markets has been able to consistently time entry & exit in stocks. I agree with Peter that market timing is the single biggest mistake which investors do while investing. Many authors & research studies before Peter have reiterated the same, be it Benjamin Graham or Warren Buffet. Peter claims that self-acclaimed market timers are either liars or idiots and an investor should never fall for such a rouse. If an investor is able to avoid this mistake, then his investment journey can be very peaceful and fruitful. Without any doubt, the best time to invest is today.

Peter discourages investors from going for active stock picking, be it trading or long term investing and recommends investing only in index funds. Peter cites various studies in US markets, which conclude that almost everyone including mutual funds, hedge funds, newsletters or endowments, have lost to index investing. However, Peter falls short of mentioning the success of many investors who have consistently outperformed stock market indices. There are many names that Peter himself quotes in the book like Peter Lynch, Warren Buffett, Benjamin Graham, but falls short of saying that an investor could follow their investment philosophy to succeed in stock market investing.

It seems that either Peter believes that audience for his book might not be able to understand the nuances of stock picking or it might have gone against his purported message of citing active investing as a mistake. Either way, I think Peter could have done a better and more holistic job while covering Mistake No. 2: Active Trading, by mentioning success of investors like Warren Buffett, Peter Lynch, Benjamin Graham or Jim Rogers.

This book accurately captures the dilemma of getting financial news through news channels as they are generally being run as profit centers focused on grabbing eyeballs rather than showing “just news”. An investor must suppress the impulse to act based on financial news. Peter illustrates the compulsion of media  channels to show sensational news through a funny example by asking the reader to imagine CNBC showing “Nothing Big Happened Today; Check Back Tomorrow”?The book rightly advises investors not to take advertised performance of fund managers at face value and suggests gathering additional vital information which should be asked and understood to see such performance claims in right context.

Emotions such as fear, greed, regret impact every investor and induce buy/sell at precisely wrong times. Behavioral Biases like overconfidence, confirmation, recency effect etc. have been known to influence investors and this book provides solutions like disciplined approach to overcome them. Peter has explained the mental accounting bias exceptionally well, which has a real potential of changing the perspective of the reader towards her money.

The book highlights that the unchecked growth of financial advisors has done more harm than good for investors. I could not agree more when I read plenty of stories around where financial advisors have miss-sold high commission products to unsuspecting investors. The book advises investors to check advisors on custody of money, conflict of interest and competence parameters. Wrong custody of money can lead an investor to be caught in Ponzi schemes like Bernie Madoff. Commission by companies to advisors for recommending their financial products turn advisors into salesperson, hampering their fiduciary duties towards client.

Financial advisors do not require any formal course and thus they mostly learn on job leading to much desired scope of improvement in their competence. Peter suggests simple methodical steps, which an investor in US could follow to decide and finalize a financial advisor. I think that such a book about deciding on a financial advisor should be written for Indian markets as well.

The book does not totally ignore “What to Do” part of investing. Peter advises investors to go for index investing and spread their bets across asset classes like US & international equities, bonds and real estate (only for high net worth people). Peter advises investors against investing in asset classes that diminish returns like cash and gold. The book provides sample asset allocation plans for different investors having different expectations from their portfolios varying from very aggressive to the most conservative.

The book, published in 2014, is one of the few books that have covered the 2008 liquidity crisis in scope of its historical analysis. It helped me to understand that 2008-2014 was no different from previous bear phases, which have invariably led to full recovery each time.

The section on “All-time high prices” is a good learning. Peter stresses that it is futile to expect a pull back every time stocks hit all-time high. The comparison with all-time high prevailing prices of diet coke, candy bar, meal at McDonald’s etc is very insightful. We do not expect prices of day-to-day use goods to correct every time they hit all-time high. In fact they are at all-time high prices all the time. Markets work the same way. BSE Sensex went from crossing all time high of 21,000 to 28,000 in a moment. Those investors who waited for a pullback might still be waiting.

I believe that The 5 Mistakes Every Investor Makes and How to Avoid Them” is a very insightful book that is very easy to read, without jargon and confusing statistics. Peter has cited studies from well-recognized sources like Vanguard, Morningstar & universities. He has presented their results in a simple way by using charts and graphs. The book is an interesting read, which can be easily finished in a single sitting. However, I would recommend that one should give it ample time, going through each section and thinking over whether her past investment decisions fall under any of the mistakes pointed out in the book.

I believe that the book can be very useful for every person whether she has been managing her finances since long or yet to make her first investment. For new investors, it can be a good beginning to start learning from other’s mistakes. The book is equally relevant for people who have outsourced their financial management as it gives a chance to assess their advisor and revisit their portfolio decision. Taking correct steps now can help avoid major financial issues in future.

Have you read “The 5 Mistakes Every Investor Makes”? What is your learning from the book? Is there any other book that you would recommend an investor to read? If yes, then I request you provide your inputs in comments below or contact me here.

P.S. This article was shared with Peter Mallouk. He appreciated the review and did not suggest any changes.

Disclosure: The article contains affiliate links of the book.

Join 30,000 subscribers & get our "Case Studies" e-book for FREE:

  • Get a Free e-book on "Peaceful Investing" case studies and learn by reading live company analysis
  • Get immediate notification on our future articles & company analysis delivered to your email
  • You will receive the e-book immediately by an email from vijay.malik@drvijaymalik.com.
  • If you do not find our email in the inbox within next 5 seconds, then please search in spam/social/ promotions folders

Follow My Portfolio with Latest Buy/Sell Transaction Updates

  • Historical annualized return (CAGR) of the portfolio 47.59% against CAGR of Sensex of 10.48%
  • We identified companies, which were later invested by Sanjay Bakshi, Mohnish Pabrai, PE funds, Mutual Funds
  • See details of stocks in our portfolio
  • Get updates of buy/sell transactions in our portfolio by email

Please share your comments here:

Bitnami