Buying a Stock? Keep In Mind Someone Else Is Selling …

However intuitive it may be I can never shake that thought out of my mind when buying stocks or other financial assets. What does the seller know that I don’t? Or the buyer in case I’m selling. Why is he selling this stock? What’s wrong with it?

People often attribute asymmetrical information to the other side of a deal. Buying a used car or house is a good example. The seller obviously holds information you don’t. How’s the car running, how are the neighbors etc. Oddly enough people usually don’t think about asymmetrical information when buying stocks. Usually we are more occupied with our thoughts of a promising return on investment.

Evidently, if you’re a household investor chances are you’re doing business with someone more experienced and more knowledgeable than you. As a household investor your resources for stock information and analysis are sparse and common. We all know what good are analyst recommendations or promising newspaper coverage.

You really should start assuming asymmetrical information and act accordingly. What can be done? The answer is simple. Either join them or be as certain as possible you’re doing the right thing.

Decided to join them? Buy ETF’s or mutual funds and invest in an index or industry. By covering the whole index (or industry) you’re moving with the big guys. You’ve got them working for you.

Decided to invest in specific stocks? Know what you’re doing and have some good reasons why you’re investing. You think fundamentals are great? Double check why no else but you recognizes that. Technical analysis looks promising? Better understand the trend and set your Stoploss right.

Either way, don’t forget to diversify your portfolio to be sure you’ve got yourself as covered as possible. Returns will naturally be lower then successfully investing in specific stocks but risks will be much lower as well.

1. Stock recommendations from analysts or brokerage houses - how valueable are they?
2. Diversifying your risk in the stock market
3. Investing Mistakes to avoid
4. Tips for young investors