Nowadays, people are less confused about investing in stocks.
It wasn’t the case earlier, but some fantastic success stories from stock market investments have changed people’s minds. Nevertheless, there are some things that most people are often unclear about: how many stocks to buy while investing and when it becomes too much to handle.
We can’t blame people for the confusion, either. Ever since the stock market’s debut, we’ve seen the rise and fall of different techniques. There was a time when stock market investments were all about buying all the stock from the top companies.
However, as you probably know, that plan didn’t pan out well, especially when the recession hit.
Because of these late realizations, people are now confused about how many stocks they should own. More importantly, they don’t understand when they should stop buying stocks.
Well, we thought we would share some insightful ideas that we have gathered. To make things easier, we have split this story into a few parts. We have based these parts on some popular ideas about how to invest right in the stock market.
- 1 Do Not Put All Your Eggs in One Basket
- 2 How and When to Diversify Your Stock Portfolio?
- 3 How Many Stocks Should You Own?
- 4 Pros and Cons of A Diversified Portfolio of Stocks
- 5 The Bottom Line
Do Not Put All Your Eggs in One Basket
It is probably the most popular advice you may hear about investing in the stock market. It translates into something simple. You have so many options when investing in the stock market.
You can invest all your money in a single asset class, sector, industry, or company. Or you can mix and match; that is, you can invest some money in one sector and the other in another one.
There are also options to diversify your investment portfolio to the top level. In this case, you will invest in stocks, cash, and bonds in different companies and asset forms.
This diversification is what we mean by ‘do not put all your eggs in one basket.’
For example, suppose you are investing around $1000 in the stock market as a beginner. To put all your eggs in one basket would mean that you spend the entire amount buying stock from a single company, say Apple or Microsoft.
On the other hand, when you don’t put all your eggs in one basket, this $1000 will be spent to purchase stocks from a higher number of companies. For example, you may buy stocks worth $100 from 10 different companies, which belong to various sectors.
There are also some other ways to diversify your investments, but we will talk about them later. Now, let’s talk about the significant benefits of stock diversification.
Reduced Exposure to Unsystematic Risk
The primary objective of ‘not putting all your eggs in one basket’ is to reduce the exposure to a type of risk called unsystematic risk. Unsystematic risk refers to the risk that is associated with a specific company or industry.
It is different from systematic risk, which means the risk that occurs in every market. In the case of unsystematic risk, the company’s performance in the real world is responsible for its performance in the stock market.
However, this change could be due to many factors, such as a product recall or a notable shift in the policy. Sometimes, even a big rumor about the company will have repercussions in the stock market.
Besides, force majeure elements like a natural disaster can also have implications in a specific company or an industry’s stock market performance.
While no one can completely overcome the unsystematic risk, diversification can reduce the exposure to it by a long shot. By ensuring that your stocks are from different companies that belong to different industries, your portfolio will privilege from a balance even if an entire industry goes south.
Better Returns Over Long Term
Diversifying your portfolio can also give you better returns over time. It happens because you do not have to rely on a single source of income.
Instead, better performance by different companies in different sectors will give you a chance of enhanced returns. On the flip side, even if a company has a more unsatisfactory performance than you expected, you won’t have to worry much.
Besides, experts believe that a diversified portfolio can help you preserve capital in the long run.
How and When to Diversify Your Stock Portfolio?
As we said, diversification is a widespread technique when deciding which and how many stocks to own. There are multiple ways to go about it. Some of the common types of stock diversification are as follows.
- Individual Company Diversification. In this case, your portfolio would consist of stocks from multiple companies instead of one.
- Industry Diversification. You can also buy stocks from companies that belong to various industries to bring some balance.
- Asset Class Diversification. In this case, you will invest your resources in different assets like stocks, bonds, cash, real estate, and commodities.
- Geographic Diversification. As you can guess from this name, this method would involve purchasing stock from not your home country.
- Strategy Diversification. You can diversify your portfolio based on the strategy you use to choose the stocks and the timing of the investments.
As to when you should diversify your portfolio, there is no fixed answer here.
Experts recommend that you should debut in the stock market using a diversified stock portfolio. When you do this, you can develop the habit of diversification and discipline.
Because you have stakes in not just one company or one industry, you’ll start paying more attention to the market condition, among other things. In short, a well-thought-out diversification strategy can help you become a better stock market investor over time.
Therefore, a few tips can help you manage diversification in a better manner.
First of all, you should start diversifying your portfolio when the market is relatively stable. Doing so will allow you to pick the companies and industries without bias. For instance, if the market seems to favor a specific industry at the time of choosing, you may end up making the wrong choice.
Diversifying your portfolio doesn’t always mean that you are putting your investments in an autopilot mode. Instead, you should keep an eye on how the focus industries are performing. While a diversified stock portfolio can reduce the unsystematic risk, you don’t have to take it.
Experts also recommend that you should follow a gradual investment plan.
That is, if you plan to put $10,000 in stocks, you shouldn’t spend the entire amount at once, especially if you are new to trading. Instead, you can invest a fraction of the amount, see how it performs, and strategize the rest.
Last but not least, you must understand how much you pay to keep the stock portfolio diversified. At times, you may have to spend a considerable amount as a commission. Make sure that this commission is less than the money you earn by having a balanced-performance portfolio.
How Many Stocks Should You Own?
There is no specific answer to this question.
The ideal number of stocks you should own depends on many factors, such as the stock exchange you have invested in, the market conditions, the amount you can invest in stocks, the industries you have chosen, and the time you can dedicate to analyzing the market.
For instance, if you buy too many stocks from a big set of companies but don’t have time to keep track of the industries, the entire diversification business is a waste of time.
There are some general rules that you can follow, though.
Experts recommend that you should have at least 15 to 20 stocks in your portfolio. Now, you have to make sure that you choose some of the best stocks for these positions. Of course, you may have to research a lot and make use of third-party market analysis tools.
Nevertheless, in the end, a diversified portfolio with 15 to 20 stocks (at least in the United States) can be the perfect choice to reduce unsystematic risk and gain maximum returns. By the way, when you think you have more time to dedicate to moving stocks around, you can increase the number to 20 to 30.
Most investors don’t go beyond this number, especially in a diversified portfolio. On a similar note, if you’ve gathered stocks from a variety of industries and companies within these 20 or 30 blocks, you’ll have a smooth sail as well.
Pros and Cons of A Diversified Portfolio of Stocks
Like anything else in the stock market, diversification also bears pros and cons. The major ones are as follows.
Pros of Diversifying your Portfolio
- Minimizes the exposure to unsystematic risk, thereby giving you a balanced portfolio.
- Increases the chances of stable returns as your investments target different spaces.
- Diversified stock portfolios are better suited for long-term investment plans.
- It helps you to develop a more expansive collection of assets.
Cons of Diversifying Your Stock Portfolio
- A diversified portfolio may require more time if you have invested in totally different industries.
- While there are stable returns, the size won’t be much when compared to concentrated portfolios.
The Bottom Line
We hope this article helped you understand how many stocks you should own and how you can diversify the portfolio.
Please keep in mind that these suggestions are general. You should contextualize these strategies before you apply them to your investment plans. Happy investment, folks!