Four Skills You Need to Learn Before Investing in the Stock Market
Successful investing isn’t just about mastering math formulas, accounting skills, or cash flow models.
Those are certainly helpful if you want to buy individual stocks or bonds. But successful investing is more about developing the right mental attitude.
The way you can develop it is by mastering a specific set of skills. The good thing is that if you start building these skills now, you’ll be on your way to becoming a better investor.
The first skill you need to develop is temperament. Here’s a great quote on this from Warren Buffett.
He said (emphasis mine),
Investing is not a game where the guy with the 160 IQ beats the guy with the 130 IQ. Once you have ordinary intelligence, what you need is the temperament to control the urges that get other people into trouble in investing.
What are some of those urges?
The biggest one is the urge to do what everybody else is doing. In other words, following the crowd.
Instead of following the crowd, you need to listen to the crowd.
You can start by observing what the market is doing and by ignoring the experts and the commentators in the financial media.
It’s just a bunch of noise.
Bitcoin is a good recent example… In recent months, the news and media headlines talked 24/7 about Bitcoin setting new highs. Or, some John Doe becoming a Bitcoin millionaire.
Heck, there were even stories of high school dropouts becoming Bitcoin millionaires.
I had Uber drivers asking me about Bitcoin. People at dinner parties were more interested in talking about Bitcoin than stocks, real estate, or even sports.
The price of Bitcoin went from around $900 to over $20,000 in less than a year. Ads chased you all over Facebook shouting how you could make millions by investing in cryptocurrencies.
All the average investor saw was a bright and shiny lottery ticket. So, they started buying as the headlines got louder. Of course, they were buying near the top.
Then, the price of Bitcoin plunged. As of today, Bitcoin is down almost 50% from its high.
All the average investors who bought near its peak price, have lost almost half of their money over the past few weeks.
They couldn’t control the urge. The temptation of getting rich quick was too high.
Successful investors can control the urge to “do something now.” Which leads me to the next skill you need…
They can control the urge because they developed an understanding of price and value. I’ve talked about it a lot.
So, I won’t go into detail now. (You can catch up here if you want.)
You need to get into a habit of asking yourself if the current price is worth paying for the asset. If it’s a stock, what is the price now compared to what it was last year? Or, five years ago?
How low did the price go during the financial crisis? Did the business survive without taking on a lot of debt?
Is the business growing or shrinking? Are its products and services in demand?
These are just starting points. But you can see the kind of questions you should ask yourself.
Think about the overall stock market too. Is it expensive compared to its five or ten-year history?
Nothing goes up forever.
The current market is a good example. It’s been going up since March 2009. It’s been making record highs along the way.
If the market corrects 5-10% or more, the stock you’re interested in will probably go down with it. You need to think about price and value before investing in any asset.
As I’ve said before, the price you pay for an asset is the biggest driver of future returns.
You also need to develop a forever mindset. Of course, we’re not going to live forever.
But your investment decisions need to have a long-term focus. I find it helpful to think in terms of generational wealth.
It makes it easier to develop a forever mind-set. What you invest in today is about setting up a brighter future for your kids, grandkids etc.
If it’s not kids and family, then it could be a charity or something you want to leave behind in the community.
When you develop long-term thinking, you’re able to live with the constant ups and downs of stock prices. A stock may go up 10% one year, down 20% another, and then up 40% in another year.
That drives most people nuts. They can’t take.
They end up making the biggest mistake any investor can make… sell low, and buy high. Or, buy high, and sell low.
When stocks drop, the become gripped with fear. They let the urge of following the crowd take over.
But here’s the thing…
Risk is not the price going up and down. Real risk is the loss of permanent capital.
In other words, making an investment and the stock going to zero. Which means you lost all your money.
Another great Warren Buffett quote sums this up. He said,
Rule No.1: Don’t lose money. Rule No. 2: Never forget Rule No. 1.
Risk is an investment lesson in and of itself…
That’s why understanding price and value are so important. It’s how you manage risk.
You want to buy great businesses with great products and services at good prices.
That’s the Warren Buffett formula. If it’s good enough for the greatest investor in history, then it should be good enough for you too.
Lastly, when you buy a stock, think like a business owner.
The truth is you’re buying a small piece of the business. You become a shareholder.
Yes, a small one. But it doesn’t matter. You now own a small piece of a business.
So, when analyzing a stock, you need to think like an owner. Think of your portfolio as your very own hedge fund or private equity fund.
Treat your portfolio like it’s your own business. After all, you are investing your hard-earned money.
It took a lot of stress, blood, sweat, and tears to build up those funds.
You shouldn’t treat buying one share of stock any differently than if you were looking to buy the gas station down the street or the local coffee shop. The same due diligence applies.
Let’s sum it all up…
Today’s all about learning the four skills of successful investors…
- Understand price and value
- Forever mind-set
- Think like a business owner
It’s a completely different way of thinking than the crowd. But it’s how you develop the right mental attitude that investing requires.
Don’t wait any longer… Start practicing and learning these skills today. Let 2018 be the year you develop these skills.
Five years from now, you’ll think it’s one of the best decisions you’ve ever made.