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Part: 1 Self-Inflicted Common Problems

Part 1: Self-Inflicted Common Problems

Much of the harm that occurs to an investor's wealth is self-inflicted. The ways people think about investing often leads them into mental traps and false beliefs. In most cases these problems cause minor setbacks that can be chalked up to a “lesson learned.” However, if the lessons aren't learned, then a major investment blunder can occur. It only takes one major blunder to severely affect your wealth and your retirement lifestyle.

Many of these problems come from the human decision-making process. Investors tend to let their emotions interfere with their good judgment. The way in which the brain functions also biases investor beliefs. Consider that employees frequently think that the stock of the company they work for is a safer investment than a diversified portfolio of S&P 500 firms. Their familiarity with their employer tricks them into miss-understanding the true risks involved. The sad plight of the Enron employees illustrates the point. However, employees in many other firms, like Lucent Technologies, are feeling this same pain.

The brain tricks investors in many ways. For example, people see patterns in data that is completely random. Because of the vast amount of information and computing power available, many investors are able to conduct sophisticated mining operations of the data. As a result, they think they find patterns that will make them big profits in the future. Convoluted and nonsensical strategies, like the Foolish Four strategy previously touted by The Motley Fool, are then created and implemented. After all this effort, investors later realize that the strategy doesn't work. What went wrong?

Sometimes we decide to take the recommendations of the experts. Who are the experts? Is their advice any good? There are significant problems with the recommendations of analysts, economists, investment newsletter writers, Value Line, and even the corporate insiders. The following five chapters explore these issues.



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