BLOG: The downsides of DIY Investing
The changing regulatory environment post-Retail Distribution Review (RDR) and the costs associated with financial advisers and other managed services have encouraged many to take matters into their own hands and look after their own investments.
According to research from Wealth Horizon, there are an estimated 23 millionof these so-called ‘DIY investors’ in the UK today. This approach sounds attractive: you save the costs of an adviser and get complete control over your assets, while the idea of dabbling in the stock market can be enticing for many! But is it really better for investors to go it alone? For every success story, there are tales of tribulation; below we explore some of the most common pitfalls of DIY investing.
It can be very difficult to take a completely dispassionate and rational approach when it comes to managing your own money. Research has shown that we are hardwired to make financial decisions based on emotion. This explains the ‘herding’ mentality, where people are influenced by others to either buy or sell an asset, and ‘confirmation bias’, where an individual will interpret information to fit with their preconceived beliefs, rather than through any sort of scientific analysis.
Moreover, when one of your investments is not performing so well, it can be hard to know when to let go of it. Research has shown that what marks out the best professional stock selectors is the ability to sell at the right time, rather than simply being able to pick funds.
We all know that financial advisers can be expensive, but DIY investing can still incur costs. While you might be saving on the ongoing advisory charges, you will still have to pay platform charges, which will generally include admin costs, dealing charges and an annual management charge (AMC) which can be up to in excess of one per cent depending on the platform and funds you choose. Then once you are ready to sell, any gains you have made will be subject to a capital gains tax of up to 28 per cent (depending in your individual tax rate).
Additionally, DIY investors can often overlook bid/ask spreads (the maximum amount of money an investor is willing to buy or sell an investment for) and these can often wipe out any savings they might make circumventing a professional adviser. Advisers on the other hand, particularly the larger firms, can often negotiate favourable rates on bulk buys of stocks.
Numerous studies have shown that those who invest themselves underperform the stock market over time. A German study of 7,000 DIY investors found that they underperformed the stock market by an average of 7.5 per cent.
Professional investors, while far from perfect, have access to detailed research and can draw on the counsel of experienced investors. DIY investors, meanwhile, often to rely on soundbites and articles published in the mainstream titles and it can be hard to get ahead of the crowd if you are doing exactly what everyone in the crowd is doing!
Risk rated investing
Another thing to bear in mind with investing is that it is not just the funds themselves that matter. It is also vitally important to make sure you are diversifying your assets to ensure you are protecting them against any sudden market fluctuations. Many investment managers will be able to employ advanced risk rating procedures to ensure that you are getting the best returns while taking an amount of risk that is appropriate for you – both in terms of how much you are willing to take on and how much you can financially bear. For many, this is where paying for an adviser or managed service provides the most value.
A disadvantage of self-investing is that it can eat up a lot of time. This should be a consideration for those who already lead busy lives. Those who get involved in the stock market may find themselves constantly checking for market fluctuations, while even those who take a more holistic approach can find re-balancing their portfolios a difficult commitment to stick to.
Professional stock pickers meanwhile will either have carefully designed strategies which they have put together with the aim of investing for the long term, or work on a more tactical basis. Either way, they will be positioned to react immediately to anything happening in the markets, whether they decide to sell, or to sit back and do nothing. Many will also work on hand-picked teams, with expertise across geographical regions, asset classes and investment strategies.
So, while the underlying principles of investing are quite simple, the act of investing can be anything but. It is worth exploring every avenue before taking the plunge into DIY investing.
Chris Williams is CEO of Wealth Horizon.