For do-it-yourself investors, self-directed investing means managing your portfolio and making trades by yourself, without a financial professional advising or doing it for you. A lot of people think that this is the most cost-effective way to manage their portfolio, and others just like doing it themselves. But there are some common pitfalls of being a self-directed investor that aren’t always immediately apparent.
Before I started working at Personal Capital, I was among those who thought I could handle being a self-directed investor. But before long, I was ashamed to admit that more than 80% of my savings was sitting in cash doing nothing. I kept meaning to set aside a weekend afternoon to figure out how to invest my savings and put an asset allocation plan into action, but life always gets busy and it can be hard to actually come up with and execute this kind of plan. Eventually I had to accept that I didn’t have the time to be a self-directed investor.
I’ve also learned that many of the folks who use our Personal Capital dashboard fall into the same trap. Our 2 million dashboard users have over $41 billion in cash sitting in savings, checking, or money market accounts. That’s a lot of “lazy cash” that could be working a heck of a lot harder if it was invested.
Self-directed investing can appear to make sense for a lot of people – but even those “in the know” can run into mistakes. Before trying your hand at investing yourself, avoid these five most common mistakes.
1. Putting your personal finances on the back burner.
your to-do list. But it gets pushed down the list, after work, family, errands, travel – and completely left on the back burner.
When your refrigerator stops working, or your car needs a tune up, you take it into the shop. When your child is sick, you take her to the doctor. We rely on professionals all the time, but we always focus on the immediate. It’s easy to let something like retirement planning slide until tomorrow, or next month, or next year.
Treating your financial future as something that you can get to “another time” can be risky. Almost everyone’s investment strategy needs planning. If you don’t have the time or passion to manage it yourself, take your investments to someone who does have the time and is passionate about it.
2. Trying to manage all of your accounts yourself.
If you’re like most investors, you have multiple retirement accounts, savings accounts, and brokerage accounts, all in different places. You might also have your spouse’s accounts or children’s 529s to consider. A lot of people can’t even remember which investments are where. It happened to me and happens to a lot of people.
On top of knowing where your money is, do you actively try to minimize taxes and fund fees? Almost every investor, even those with many millions of dollars, are paying more in taxes within their investment accounts than they should be. Because of this, self-directed investing is not always saving you money. Consider talking to someone who can help you with tax and fee efficiency. In some cases, you can save more in taxes than the advisor fee you may be paying.
3. Having undefined financial goals.
Is your retirement on track? Do you know when you want to retire and when you want to take Social Security? Do you have enough in your 401k and other retirement accounts? Do you know how much is enough?
Everyone should have a long-term investment plan based on personal goals, retirement targets, and risk tolerance. Make sure your portfolio is properly maintained and efficiently allocated for retirement. Don’t think of setting goals as a one-time exercise, but as an ongoing process that will evolve as circumstances change. Talking to a professional can also be extremely valuable in figuring out how to create income when you do retire, which is something that self-directed investors often overlook. There’s so much focus on accumulating wealth during your working years, that how you withdraw and spend that money in retirement is sometimes forgotten.
Clients of Personal Capital have access to a tool called Smart Withdrawal, which helps you build a plan for how to most efficiently withdraw your assets in retirement.
4. Making emotional decisions.
If you are managing your own investments, it can be hard to be objective. If the market were to go into a major correction tomorrow, would you be able to stay the course and stick to your plan? Oftentimes, self-directed investors find it hard to keep emotions out of their investment decisions – after all, we are all human and it’s almost impossible to remain objective when it comes to our nest eggs. But it’s incredibly important for your long-term success to avoid falling into some common behavioral finance traps like recency bias (thinking that what performed well recently will always perform well), status quo bias (opting for what you’re familiar with), or simply making knee-jerk reactions when the market starts getting volatile.
Hiring an advisor can mitigate a lot of these risks when it comes to emotional decision-making. It’s hard to be objective when it comes to your money!
5. Not looking at the whole picture.
Your financial well-being is more than just your investments. There are countless other considerations that should be factored into your financial plan. We talked about tax management, but what about insurance needs? Estate planning and charitable giving? Saving for your children’s college education? It can be difficult to find the time to actually manage these things and educate yourself enough to be able to manage them effectively.
Personal Capital’s free financial dashboard is a great place to start looking at your finances holistically. You can link your bank, credit card, savings, investment, and retirement accounts to see everything in one place. Our advanced Retirement Planner tool will help you plan for various scenarios and project your chances of success towards reaching your long-term retirement spending goals.