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Trading Stocks on Short-term – Another Mistake Investors Should Avoid

THE Nigerian Stock Market started the third quarter on a positive note. Though the rising trend could not be sustained throughout the week, it nonetheless increased hopes of further improvement in the performance indices of the Nigerian Stock Exchange (NSE) over the achievement in the second quarter.

Though the market recorded strings of losses on share prices in the last few days of last quarter it turned out to be the best quarter experienced in some time. The All-Share Index (ASI) got a breather after the massive declines suffered since March 2008.

The ASI rose by 35.31% during the second quarter of the year, a move attributed to the impressive results by some quoted companies. Compared with an opening value of 31,450.78 as at December 31, 2008, the year-to-date drop in ASI stood at 14.6%. This was an improvement over the first quarter performance when the ASI dropped by 37%.
Though stability is still short of being restored, the market is no doubt treading the slow and steady steps towards full recovery. The recovery pace is however dependent on investors and their psychology towards the market.

The Nigerian stock market, once reputed for its slowness in responding to information about companies and the sectors in which they operate, is fast becoming as sensational (if not more) than its western counterparts.  Having been badly burnt by the stock market crisis, most investors now react with such rapidity to any information which may impact on share prices and this is fast robbing the market erstwhile general long-term outlook.

The latest development have both positive and negative effect on the market. On the one hand, the fact that the Nigerian market is becoming more responsive to information is an indication that many investors are now actively involved in the market, rather than before when they were passive. On the other hand, their involvement in this manner would have negative effects on the pace of market recovery due to increasing volatility.

The general trend in the market since the rebound start in mid April is that it opens on a positive on Mondays and the trend sustained through to mid-week. By Thursday, the markets suffers heavy losses which are sustained to the close of trading on Friday as investors take profit. The following Monday, the traders begin their vicious circle of trading for short-term profit.

Recent data indicates that the stock market recorded mixed performance in June. While turnover volume and value increased, the market capitalization and All-share Index declined. This was indicative of profit taking and loss cutting activities by investors. Though the allure of buying and selling stocks frequently can be difficult to resist, particularly at this time when investor confidence in the market is still shaky, the temptation may be costing you more than you think if you continue to indulge yourself.

Short-term losses are disheartening, but investors can take heart in knowing that historically, long-term investments have been rewarded over time. History has shown that trying to time the market and panicking over short-term losses negatively affects investments. Investors who frequently make decisions based on short-term market movements often spend a lot of time and effort unsuccessfully predicting what the market will do next. Market timers may also reactively sell an investment as soon as it drops in value. This could lead to panicky investors unwisely selling an investment for less than they originally paid for it.

Many financial experts claim that the longer you keep a stock the more likely you are to achieve your financial goals as compared to traders, who frequently jump from one investment to another.

Outcomes of Trading Short-term

Increased possibility to make costly mistakes. Losing sight of the long term and thinking you can time the market by exiting at the peak and re-entering the market at the bottom over the short term is a big mistake. Timing market shifts correctly is nearly impossible, although making modest adjustments to your strategic allocation based on current market analysis can add value. However, we continue to see investors making wholesale market timing bets.
Not investing when you have investable funds can be another form of market timing. By staying out of the market, an investor is assuming they can predict the market’s near-term results. This is usually based on the recent past, which can be very misleading.

Over the long term, investing in the stock market has proven to be a very successful strategy. Unfortunately many people lack the discipline of long term investing and continually look for the quick short term gain. It is very difficult to achieve short term results with an instrument designed to accumulate wealth over time. It is not impossible to achieve short term results by frequent trading, and more people fail at it than succeed. Furthermore, even if you do “beat the market” you still have to overcome some more obstacles to achieve lasting success.
The first obstacle for short term traders is commissions.

The first obstacle to battle when trading frequently is commissions. Obviously, the more trades you make the more money you are paying in commissions. Frequent trades have been known to eat up a significant portion of your portfolio. Once again, if you are taking a long term investment approach you are reducing the overall commission expense to a negligible amount.

The second potential setback to short term trading is a big losing trade.

Unless you are very disciplined and diligent about your stop losses, you will eventually have a significant loss when trading. When that happens you can do one of two things: Sell the stock, losing valuable working capital or wait, hoping the stock will go back up. Day traders are not concerned about the fundamentals of a company so a losing stock position is less likely to go back up without strong fundamentals to support it. Either choice, selling at a loss or waiting for a price rebound, can be very costly for a short term trader, both financially and emotionally. However, if you are investing for the long time you are looking for solid companies that will increase in value over time. Short term price drops can be a chance to add to your position rather than a setback. If used correctly, the stock market and time are wonderful allies when trying to accumulate wealth.

Benefits of long-term over short-term

Your rate of return is boosted by stock dividends. Dividends are great because they add to the overall value of your equity investments. They’re yet another element that can boost your rate of return, and are there to reward you as a long term investor and shareholder. Dividend are perceived as a “buffer” to investments in the sense that they help neutralize poor returns from stock price alone, while adding the icing on top of positive stock price performance.
A long term view lowers your risk. When you invest for the long term, your average return becomes much more stable over time and it is less likely that you will lose money. What does that mean? Studies show that as we lengthen our investment horizon, the average annual rate of return over that timeline becomes less variable. That is, the longer your time in the market, the more likely you will receive the long term average annual rate of return.

A long term view gives you time to fix your investment mistakes. If you were “lucky” enough to start investing very early in your life, you have an advantage over everyone else: that is time. Time to recover from any mistakes you make with your money. A bad year in the stock market can easily be neutralized by several successive good years. If your portfolio is not performing the way you like, you have got time to tweak it into something that should be solid enough to address your future financial goals.

In Conclusion

Long-term investing has proven to be one of the best ways to accumulate wealth in the stock market. By showing patience and discipline, investors can take of market rebounds, enjoy superior returns, and experience peace of mind.
Practicing long-term investing also insures you against sustaining great losses during down markets especially if the portfolio is diversified. As a result you ensure that your long-term financial goals are not affected.


Comments expressed here do not reflect the opinions of vanguard newspapers or any employee thereof.