Diversification is one of the most talked about investment concepts. The concept is simple: “Don’t put all your eggs in one basket.” Diversification is used in every day life, independently on the decision made.
Generally, diversification is used in daily life to be protected from uncertainties and unpleasant situations. It should be also used to protect wealth.
From a financial standpoint, it is widely known that investing in stocks means investing in businesses and owning more than one stock means that one is in the correct path towards diversification.
The basic goal of diversification is to protect investments from the unpredictable. It can be said that diversification is like an insurance policy. Those who do not diversify and pull all their funds into one stock or two, can easily end up losing all the money. Diversifying through the investments in, suppose, 10 important companies, will bring good results even if some of the companies do not perform well. However not all extremes are good, thus diversifying a lot may end up affecting.
So, how many stocks should one invest in? First, one has his own assets such as a house and bonds, there is no need to worry much about diversification. Second, the more knowledge one has about stocks the more weight one should give them.
Benjamin Graham has been explicit on the number of stocks that a defensive investor should invest in. He says, “There should be adequate though not excessive diversification. This might mean a minimum of 10 different issues and about a maximum of 30.”
Why does he say this? He says this because the principles of diversification are so simple that investors end up choosing points of excess.
There are investors who recommend international diversification. This recommendation should not be overemphasized because many U.S. companies earn a large percentage of their income from their international operations. On the contrary, it may be more advantageous to invest in global U.S. companies than to invest in companies outside the United States. Because many countries have less stringent regulations to protect shareholders, they do not offer the same protection as U.S. companies do, creating a riskier investment portfolio that would defeat the purpose of diversifying in the first place. Furthermore, by investing in companies in developed economies, shareholders are more likely to be partnering with a well-educated, well-trained, superior management team than if they invested in companies in the developing world.
Before investing abroad, it is necessary to familiarize with the country and its financial regulations. Not only with the company itself.
Now, one should own a limited number of stocks or own a large number of stocks? The best answer is provided by Lynch himself, who says, “In my view, it’s best to own as many stocks as there are situations in which: (a) you’ve got an edge; and (b) you’ve uncovered an exciting prospect that passes all the tests of research. Maybe that’s a single stock, or maybe it’s a dozen stocks.”
Most people are unlikely to invest efficiently in a large number of stocks from several industries. In such cases, diversification can become “diworsification,” a situation in which diversification can hurt one´s returns, rather than protect them. Of course there are always exceptions.
In general, a prudent strategy involves 10 to 30 stocks. The less emphasized, but more important, point demonstrated by Buffett’s practices is that the more one knows about certain stocks that one has deemed desirable, the more of them one should own.
Generally, diversification is used in daily life to be protected from uncertainties and unpleasant situations. It should be also used to protect wealth.
From a financial standpoint, it is widely known that investing in stocks means investing in businesses and owning more than one stock means that one is in the correct path towards diversification.
The basic goal of diversification is to protect investments from the unpredictable. It can be said that diversification is like an insurance policy. Those who do not diversify and pull all their funds into one stock or two, can easily end up losing all the money. Diversifying through the investments in, suppose, 10 important companies, will bring good results even if some of the companies do not perform well. However not all extremes are good, thus diversifying a lot may end up affecting.
So, how many stocks should one invest in? First, one has his own assets such as a house and bonds, there is no need to worry much about diversification. Second, the more knowledge one has about stocks the more weight one should give them.
Benjamin Graham has been explicit on the number of stocks that a defensive investor should invest in. He says, “There should be adequate though not excessive diversification. This might mean a minimum of 10 different issues and about a maximum of 30.”
Why does he say this? He says this because the principles of diversification are so simple that investors end up choosing points of excess.
There are investors who recommend international diversification. This recommendation should not be overemphasized because many U.S. companies earn a large percentage of their income from their international operations. On the contrary, it may be more advantageous to invest in global U.S. companies than to invest in companies outside the United States. Because many countries have less stringent regulations to protect shareholders, they do not offer the same protection as U.S. companies do, creating a riskier investment portfolio that would defeat the purpose of diversifying in the first place. Furthermore, by investing in companies in developed economies, shareholders are more likely to be partnering with a well-educated, well-trained, superior management team than if they invested in companies in the developing world.
Before investing abroad, it is necessary to familiarize with the country and its financial regulations. Not only with the company itself.
Now, one should own a limited number of stocks or own a large number of stocks? The best answer is provided by Lynch himself, who says, “In my view, it’s best to own as many stocks as there are situations in which: (a) you’ve got an edge; and (b) you’ve uncovered an exciting prospect that passes all the tests of research. Maybe that’s a single stock, or maybe it’s a dozen stocks.”
Most people are unlikely to invest efficiently in a large number of stocks from several industries. In such cases, diversification can become “diworsification,” a situation in which diversification can hurt one´s returns, rather than protect them. Of course there are always exceptions.
In general, a prudent strategy involves 10 to 30 stocks. The less emphasized, but more important, point demonstrated by Buffett’s practices is that the more one knows about certain stocks that one has deemed desirable, the more of them one should own.
