Beware the dangers of following other investors

Earlier today, I had a call with a friend where we discussed the dangers of blindly following other investors. We’ve spoken before about the hidden costs of people following investing charlatans – in some cases, these costs can be absolutely tragic as inexperienced, naive investors are hung out to dry by unscrupulous characters only interested in making a quick buck for themselves.

Coming off the call, I thought I’d try and do my bit for the investing community by publishing my own checklist of questions I ask when reading about, or listening to, another investor’s thoughts on a company.

  1. Do I know this investor’s track record? Understanding an investor’s track record is a reasonable starting point for trying to gauge how successful their investment analysis skills are. Their track record should show better than average performance (excluding costs, I’d expect an active manager to return 5-6% a year – on average), and preferably an area of specialist knowledge (maybe they only invest in Japanese Small Caps, or in US Unquoteds), demonstrating deep knowledge and ability to execute within it.
  2. Do I trust it? If the investor has made their track record public, I then ask if I really trust it. For investors working for entities that declare their results such as investment trusts, it’s slightly easier to verify their performance, but it’s still important to consider that such an investor will likely benefit from a supporting team of co-managers and investment analysts. How much of their results are a result of a great team behind them? For smaller retail investors, their results are almost impossible to verify – it comes down to whether I trust them or not. Good warning signs here are a prevalence of outlandish claims or ‘laddish’ terminology about ‘smashing the market’ – in my experience, these sorts of investors are more likely to smash their own portfolios than generate consistent outperformance. As with many things in life, the understated, humble approach is often a good sign of honesty.
  3. Do they learn from their mistakes? In my opinion, a good investor is one that is open and honest about their mistakes; but also learns from them. I know more than one investor who regularly talks about their mistakes but seems to have been making them repeatedly for years. When challenged, they seem to point to minor changes to their strategy and approach whilst ignoring the fact that they’re losing money hand over fist. Again, not a great indicator that I should be listening to them.
  4. How timely is their information? Some investors I know tend to write about buying or selling weeks after opening a position and surprise, surprise, it’s invariably moving in their favour. Likewise, fund managers talking about positions they already hold very rarely provide a buy price, the exact date of purchase, or purchase rationale. If they’re talking about it, the onus is simply on the listener to figure out if they’re in profit or not.
  5. What does the investor have to gain by telling me this? Most, if not all investment commentators, have something to gain by telling people their thoughts on a company. Sometimes, it’s nothing more than a bit of fun – a conversation at the pub – but other times, the investor stands to gain financially by convincing people that this share is a great purchase. One of the first things I tried to learn is to tell the difference. For example, share tips in publications like the Investors Chronicle or the Questor column need replacing one a week for a new edition of the publication. If the tipster has nothing to say, they lose their job, so they scour the markets, pick a share, and write something about it. Often, these sources are a great starting point for my research – but I learned a long time ago to avoid making them the only

 By asking these questions when I speak to another investor, I can quickly edit out those with poor psychology, discipline, and performance, as well as those who have more to gain from sounding intelligent than being correct. It’s important that you do your own due diligence on investors rather than blindly following and remember; don’t think other people will take better care of your money than you.