Participating on the stock market as an investor or trader can be a good way to supplement primary income. It can also be a quick way to lose money. Not everyone is suited to the stock markets. Even those that are suited to the stock market could end up losing big time.
Alhamduilillah, I’m fortunate enough not to lose big since 2020 (although I lost big in 2010). In fact, any small losses I have incurred in recent times are either because of a glitch in the trading platform or making a mistake during my learning phase.
This article is intended as a guide to minimising loss. Each piece of advice is actionable. A lot of the advice contained in this article is well known in investment circles, but I’ve also added my own advice based on my own experience of trading.
1) Do not invest more than you can afford to lose
This is the single biggest way to minimise losses. As a beginner, you need to acknowledge that you will make mistakes, and mistakes in the stock market are costly.
Also, in the beginning you may not know if being an investor or trader suits you better and you may find that you change strategy. This is exactly what happened in my case. I started off thinking investing suited me, but soon became disillusioned with this idea when I realised that markets were not rational. Sometimes I’d spend days researching a stock before investing only to realise afterwards that share prices seem to have a mind of their own!
If you’re a super cautious person, here are two tips for you: i) Invest only what you can afford to lose
ii) Once you’ve made a profit, pull out your initial investment and invest only the profits.
For example, say you invest £100 in a stock and sell it for £125. Withdraw £100 and continue investing the £25. Now, even if you lost that £25, you’re no worse-off financially than before you started out.
Only invest what you can afford to lose.
2) Research, research, research
Don’t buy a stock on a whim. Do your research on it. Share prices can be very volatile. So, when share prices go down, you need to be confident enough that it will rise above and well beyond your purchase price.
A lot of people do not understand what a loss is.
If you buy a stock for £10 then if the price goes down to £9, you haven’t actually lost any money. Likewise, if you buy for £10 and the price goes to £11, you haven’t actually made any money.
The only way to lose or make money is to ‘bank’ it – that is, to sell (or ‘close’) the trade.
If your research is not robust and the price dips a little, you may start to panic and sell your stock at a loss. This guarantees a loss. But if your research is robust and you know in the long term share prices will increase, then you will hold on to your stocks until it eventually recovers and continues to rise further.
This point is highlighted by the tragic death of a 20 year old trader who killed himself because he (wrongly) believed he had racked up $730k of debts by trading. He hadn't. The Financial Times wrote a good article on it at the time.
Researching thoroughly may have just saved the young man's life.
3) Do not limit yourself to one industry
I am a huge aviation fan, so naturally, when I started out on the stock markets, I looked into aviation shares. Generally speaking, macro-factors affect an entire industry. This means that even if you were to hold shares in the healthiest airlines, when there is a problem with the industry, all airline stocks will decline.
For example, the coronavirus pandemic battered airlines as countries began to ban inward travel to contain the virus. As air travel shrank 90%, airlines put their aircraft into storage (which is very expensive) and kept paying fixed costs. If you held all your stocks in the airline industry, you were in for some sleepless nights.
Diversify your portfolio into different industries.
4) Invest in more than one country
If a national economy is in recession, then the stock market of that nation may return poor yields. Even if it’s not in recession, bad news for a specific country can cause share prices to decline. An example is the UK. There were many bad days on the stock market when it looked like a Brexit deal would not happen or the terms of the deal would be bad for the UK. This had little to no effect on the US market as they are not affected by the UK’s Brexit deal in a big way. (However, if it was the other way round, the UK markets would be affected by the US).
Buy shares in at least two countries.
5) Invest in diversified asset classes
This piece of advice is theoretical as I haven’t done this myself. Once your portfolio gets to a certain size, it makes sense to diversify your asset portfolio. For example, instead of having 100% of your investments in stocks, consider holding some investments in gold. Personally, I haven’t yet found a practical way of doing this.
Some investors ‘buy gold’ through their trading platform without realising they are not buying the underlying asset – that the gold will not be registered in their name. Quite often, such investors are engaging in CFDs (which is totally haram) without even realising.
There are also ETFs that give investors exposure to gold. But this also does not give ownership of the underlying asset. Instead, it gives exposure to gold related stocks. I find this problematic because the ETF (exchange traded fund) is basically a middle man, and I want to eliminate this. Also, an investor has no control into what or where the ETF puts your money into.
If a practical solution becomes available, I will certainly consider it. For the time being, I hold gold stocks as part of a diversified stock portfolio.
An alternative to gold could be Real Estate (property). You may wish to consider a REIT. Again, I’ve avoided this because of concerns with shariah compliance. It’s accepted that to buy property (or real estate), huge interest-bearing loans are usually taken out. But if there were a REIT that didn’t involve large amounts of interest, that’d be a good idea.
Consider diversified asset class of investments if practical.
6) Batch-buy shares
I identify stocks that have fallen sharply. But even then, once I find it, I do not go all in. I will buy in batches. This is because even though the share price has fallen, no one knows where it will bottom out. An example will be helpful here:
As an example, let’s suppose I wanted to buy shares in Luckin Coffee on 31 March 2020. As soon as the price dropped to $5.35, I would buy lots of shares, but wouldn’t plough all my money into that stock. I would then wait a bit more to see how things pan out. As it turns out, the share price fell even more. I’d buy some more at that point. And then it went down even more, so I’d buy even more later at $1.35.
Now, one could say buying at $5.35 would be a bad idea, but such a person hasn’t understood how the market works. At the time, it’s impossible to say whether the share price will continue falling, level off or increase. If it increases, the investment opportunity vanishes. Using the batching technique means that the average cost per share is pretty close to what the real share price is.
Always batch-buy.
7) Check the stock market frequently
I personally know two other people (besides myself) that have lost over 90% of the value of their stock holding.
In my case, I made an ill-fated investment into a company called African Medical Investments PLC in 2010. By 2014, they were kicked off the AIM.
In all three cases, the loss could have been avoided by checking the stock market regularly.
Check the stock market routinely and take action when necessary.
8) Set up news alerts
This piece of advice links to the advice above. You can either go and find information online, or use clever hacks to make the information come to you. Google has a good feature that allows news of the stocks you’re involved in to land in your inbox automatically.
This is discussed in more detail in a previously-published article.
9) Don’t listen to hype pushers
If you’ve ever watched a film called Margin Call, you’ll know that financial companies may be incentivised to push certain stocks with no regard for what happens to the investor. I fell for this when I bought shares in African Medical Investments PLC. The brokers made it sound like it would be impossible for this stock to perform badly. But badly it performed.
People will have their own agendas to promote certain stocks. In the end, you can only rely on your own research.
10) Use a dummy account to get used to trading platforms
Most reputable trading platforms offer a dummy account facility. Use it. Make as many mistakes there as you possibly can.
11) Consider using stop loss triggers
A stop loss order (or trigger) is a function most trading platforms offer. This is a setting where you’re basically telling the platform to sell your stock if it goes below a certain price. In the words of Investopedia:
“A stop-loss order is an order placed with a broker to buy or sell a specific stock once the stock reaches a certain price. A stop-loss is designed to limit an investor's loss on a security position. For example, setting a stop-loss order for 10% below the price at which you bought the stock will limit your loss to 10%. Suppose you just purchased Microsoft (MSFT) at $20 per share. Right after buying the stock, you enter a stop-loss order for $18. If the stock falls below $18, your shares will then be sold at the prevailing market price.”
I personally do not use stop-loss orders because I am heavily involved in volatile stocks. Using stop-loss orders makes a lot of sense for people looking to ride the wave.
12) Research director sales
When directors buy or sell shares in the company they work for, they have to declare the transaction. Luckily for investors, this is public information.
If several directors sell off their shares in a short space of time, you really need to ask your self is it a coincidence that all the directors are selling at the same time.
It could just be a coincidence. Or perhaps they know something the average investor does not know.
Fortunately, this is a surprisingly easy thing to do (which I discussed in a previously-published article).
13) Make sure the trading platform you sign up to is an FCA regulated firm
If you’re an investor in the UK, there’s some good news.
The government has guaranteed up to £85k held in investors’ accounts. This means you can have up to £85k in a trading account, and if the share dealer goes bust, the government will compensate you. This is the same level of protection bank account holders get.
This is part of the FSCS (financial services compensation scheme) and the firm must be FCA regulated.
14) Don’t get too greedy
Many people lose money on the stock market. There will be different reasons for this (such as not understanding the risks, not understanding leverage, not checking the stock market regularly, etc.). But one of the biggest reasons why people lose money is because they get too greedy. When people get too greedy, they begin to invest ever larger amounts. Eventually, some end up investing more than they can afford to lose. Remember this mantra:
Opportunities in the stock market are like London buses. They come every few minutes, and sometimes many come at the same time.
Don’t rush into trades without completing your due diligence process (including shariah screening). When investors rush trades, that’s when they overlook things. And when things get overlooked, that’s when costly mistakes are more likely
Decide how much profit you’d be happy with. Once you’ve achieved it, train yourself to walk away from the trading for that day.
15) Don’t get involved with things you don’t understand
The world of investing has become very complicated. There was a time when only shares of a company were traded. Nowadays, there are so many instruments that it’s very confusing.
Briefly, investors can invest in:
Shares (equities)
ETFs (exchange traded funds)
Bonds
Cryptoassets
Property (via REITs)
Commodities
Currencies
Pick an investment area, research it and stick to it. Consider moving to another investment only if you’ve mastered the original choice and have researched the next opportunity.
From an Islamic point of view, not all the above are halal and you should learn the rules before getting involved with them first.
16) Do not over-expose yourself to one stock Every trader has a favourite stock- a stock that makes them money repeatedly. However, you should be disciplined enough to stop your self from buying too much one one stock. If that company runs into trouble, you'll end up losing a lot of money.
Conclusion
Without doubt there are risks associated to participating in the stock markets. An investor may lose all, or a part, of their investment. However, with thorough research and risk-mitigation strategies in place, risks can be reduced to negligible levels.
Personally, I have found strategies #6 and #14 the most helpful to me. Strategy #6 has helped me to minimise potential financial loss, while strategy #14 has helped me to achieve a greater work-life balance.
To learn more about trading on the stock market, join my free 30 Day Trading Programme where you'll learn how to trade from the comfort of your own home.
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