Beginners’ mistakes in investing: finding the next big thing

One of the most prevalent mistakes among people who have limited knowledge about the stock market and companies is that they think the (only reasonable) way of making money is to find the next Google or Apple before anybody else. Without doubt this is an alluring proposition. If one bought a 50% stake in Apple before its IPO, by now that investment would amount to probably tens, if not hundreds of billions. Sounds so very easy!

But why is then the world not full of ordinary folk who bought such stakes and became filthy rich?

First, because there are tens of thousands of start ups and identifying the winners is devilishly hard. Warren Buffett likes to give the following example: Imagine that you lived in the early 20th century and you predicted that the car industry was going to grow astonishingly (as it indeed did) in the US and the also worldwide. Which company would you pick, given that there were around 2,000 car makers in the United Sates? Not easy to pick up a winner from the list. You might have had a much greater chance playing the casino than betting on the right car maker. Similarly, today the future of the biotech industry looks bright but there are scores of small biotech companies. Some of them are probably going to do extremely well but trying to predict which ones is more of a speculation than true investing.

The other thing is that even if you do manage to buy shares in a big winner “early” enough (whatever that means, and it is worth coming back to this in another post) how can you be sure that you will keep the shares long enough to maximise your gain? Let’s say you bought Apple. It is easy to muse about the billions you would have gotten by now. But how about 1996 when Apple was all but bankrupt? Why do you think you would have had the nerves to hold the shares all though that calamity? True, Steve Jobs turned Apple around and made it the biggest money making machine ever. But how could you have known things were going to turn this way? The truth is you could not have known that. And in 1995-6 the prudent thing to do was to sell while you could still get something back. And what is more, you probably would have gotten scared much sooner than 1996 and would have parted ways with your shares long before that, making only a mediocre gain. Indeed, looking at the stocks fluctuations in general it is easy to predict that whichever start-up stock you buy there would be plenty of downward movements that will potentially freak you out and prompt you to sell. Particularly because you would be aware that your miracle start-up is just that, a start-up that may be eaten alive by its competitors the next day.

But where should one invest then? Surely not in old and well-estbalished companies like Walt Disney or Coca Cola. It just cannot be that obvious, right? Good deals must be well-hidden from the general public and known only to a select few.

Well, here’s something to consider. Some of Warren Buffett’s greatest investments are Coca Cola, Walt Disney, the American Express, the Washington Post and Procter & Gamble. All of these companies were well-known and well-established on the market at the time Buffett invested in them.

Now you may say, it is not that easy. There are many well-known companies and if it were that simple people would just buy shares in some of the big names and make tons of money. Indeed, it is very hard to identify the winners among the big names. But do you really think it would be easier to pick up the winners amongst thousands of small, unknown companies, most of which will be bankrupt in short order?

Disclaimer: This article should not be regarded as advice to invest in any of the companies mentioned above.

2 thoughts on “Beginners’ mistakes in investing: finding the next big thing

  1. This article is right on the mark. Well written with precise examples and analogies. It’s truly sad that these types of articles (which would actually help people build wealth instead of destroy it) aren’t published more often on financial web sites, news papers, and business channels. Thank you! Please provide more of the like and get the good word out. Continue fighting the good fight and help dispel the hype and the myths being propagated endlessly by the 27/7 mayfly financial media.

    1. Kim, many thanks for commenting. You are the first one to react to my blog and it is very encouraging to see that people appreciate one’s blog posts. I will definitely continue writing about retail investing common pitfalls.

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