3 stock market mistakes to avoid in the second half of 2024

Since the beginning of 2023, the Nasdaq Composite Index has risen a dizzying 72%, while the S&P 500 Index has achieved an impressive gain of 45%. Some investors may think that the market is overextended.

In addition to many stocks with valuations above their historical values, there are many economic indicators (from the US money supply to the state of the housing market and the consumer) that indicate the market could be primed for a sell-off or even a correction.

Here are three mistakes to avoid in the second half of 2024 and how you can prepare for whatever the market brings for the rest of the year.

Image source: Getty Images.

1. Review your portfolio

One of the worst decisions you can make is to change your investment strategy and portfolio based on emotions. Even if the stock market falls, history shows that holding onto investments during periods of volatility is a winning strategy. The Nasdaq Composite and S&P 500 both suffered brutal declines in 2022. But since then, both indexes have more than made up for those losses.

Even if an investor had a crystal ball and knew that the market was going to sell off, it would have been better to ride out the decline rather than sell and not get back in. The reason knowing when to enter the market is a bad idea is that you have to get it right twice: knowing when to sell and when to buy. On the other hand, buying and holding quality companies requires only one good decision.

Now is a good time to perform a portfolio review and make sure your investments align with your risk tolerance. When a certain sector or theme dramatically outperforms others, it can completely change a portfolio’s allocation. For example, if you had even a small position in stocks like Nvidia either Target platforms that have multiplied several times in a relatively short period of time, those companies would probably have become much larger positions in percentage terms.

Of course, you can trim your position to reduce your weighting, but another solution is to change how you allocate new capital. Investors who regularly contribute new savings to their portfolios can simply put those contributions to work in completely different companies. For example, if you think you have too much exposure to technology stocks, you might want to consider another sector. You could also explore an exchange-traded fund (ETF) that provides diversification across many different companies.

In summary, there is a clear difference between rebuilding a portfolio and making some adjustments. The key is to feel comfortable, and the best way to do that is to know what you own and why you own it. You also need to make sure that your portfolio is not riskier than you want.

2. Chasing rising stocks

We just discussed how the allocation can change based on the ownership of winning stocks that now make up a larger percentage of the portfolio. This is a good problem to have, but there is also the exact opposite scenario.

It would be very difficult to have kept up with the major indices since the beginning of 2023 if you did not own mega-cap growth stocks. There have been many outperforming companies across all sectors, but overall, the technology and communications sectors have led the market rally.

It’s a good idea to make sure you don’t get a bad dose of “fear of missing out” and buy up-and-coming stocks just because you think they might keep going up without having a clear idea of ​​what the underlying company is doing. But that doesn’t mean all stocks that have been going up are worth avoiding.

Microsoft (MSFT 1.64%) is my favorite example of a mega-cap growth stock that has posted astonishing gains in recent years but remains an undeniably good investment. The company is accelerating revenue growth while boasting record operating margins in a decade and returning record capital to shareholders through buybacks and dividends. It has a clear path to triple its market cap over the next 11 years.

So while it’s a bad idea to buy a rising stock for speculative reasons, it’s also a mistake to completely dismiss a company or assume it’s not a buy just because it’s at an all-time high.

3. Investing in mediocre businesses

Another mistake to avoid in the second half of 2024 is putting capital to work in low-quality businesses.

There are many ways to evaluate a company, but at its core, what matters is whether the company can continue to grow its earnings and meet investor expectations. To do so, it must have a strong balance sheet and manageable debt position, a competitive advantage in, preferably, multiple product or service categories, strong free cash flow to reinvest in the company, innovation and a willingness to adapt and take risks, and it must meet dividend and share buyback expectations if that is part of the value proposition.

Procter & Gamble (PAGE 1.32%) Procter & Gamble is an example of a high-quality company. It has a portfolio of elite brands across several consumer goods categories. It has raised its dividend every year for 68 consecutive years and regularly has cash left over to buy back its shares. Management is careful not to expand the business too much, preferring instead to reinvest in existing brands. Procter & Gamble is a simple, boring, but effective dividend stock that can be relied on no matter what is happening in the economy.

In comparison, a low-quality company may take on excessive debt and leverage just because it is doing well at the moment, only to see its losses amplified during a downturn. Other companies may have years or even decades of success in their past, but have poor management teams that are too complacent, leading to losing market share over time.

Another form of this mistake is using a stock’s price as a yardstick for determining whether it’s a good deal. Just because a stock has outperformed the major indexes in the short term doesn’t mean it’s a good deal. There are plenty of examples of once-hot stocks that later imploded or suffered irreversible losses. A stock’s price and short-term performance are simply a reflection of the consensus market sentiment at a given time. Over the long term, fundamentals tend to prevail, bubbles burst, stories fade into history, and new characters capture attention.

While no one knows what the future will bring, you can prevent a bad company from ruining your portfolio by investing in the ideas you feel most strongly about and staying diversified through a mix of individual investments, ETFs, or both. As we mentioned above, it’s very important to keep a close eye on allocation so that your portfolio isn’t too concentrated in one company you’re comfortable with.

Developing healthy habits

Every investor makes mistakes. And if you’ve been investing for a long time, chances are you’ve made some particularly painful decisions that you’d rather not make again.

We can’t avoid all mistakes, but we can take steps to try to limit them.

Hopefully, these lessons can help you apply checks and balances to your portfolio to position yourself for success in the second half of this year and for many decades to come.