Buy Apple Stock, or Diversify?

Diversification seems to be a buzzword that is thrown around by investment gurus way too often.  It is a feel good word that advisors use to sound intelligent and sophisticated.  That is fine and all, but most investment advisors and their clients do not even understand what true diversification in an investment portfolio really means.

What is Diversification?

Diversification is “A risk management technique that mixes a wide variety of investments within a portfolio. The rationale behind this technique contends that a portfolio of different kinds of investments will, on average, yield higher returns and pose a lower risk than any individual investment found within the portfolio.” 1

How do I know if I am fully diversified?

This is where the water gets a little muddy.  This question will bring different answers from different advisors.  Some people would tell you that you need between 5 and 10 individual stocks to be properly diversified.  If you have only 10 stocks you are taking on extreme risk that is not necessary for you to have.   Odds are those 10 stocks are all in a similar place in the market.  Thus all 10 of them will be moving in a similar direction when a crash in the market comes.

Diversification is more than just the number of stocks that you are invested in, although that is very important.  As a result of the funds that our firm, Preferred Retirement Options, recommends, clients are invested in about 12,000 individual stocks.  The most important part about that is that we are invested in every sub category of the market in every free country in the world.  Large companies, small companies, international companies, distressed companies, growth companies etc.  We are investing in different economies and different technology.   It would take an extinction level event for all of those stocks to lose their value.   From the portfolios I have seen, most investors that work with an advisor are invested in only large US stocks in the amount of 500 to 1000 total stocks and call that well diversified.

Why is Diversification so important in your investment portfolio?

Take a look at this chart created by Matson Money. 2

This is a pretty technical chart so let me explain.  This is real data from 1970-2016.   If you were to invest in the S&P 500 you would have gotten a  10.3% return with standard deviation of 17.11.   Sounds great right.  But if you add bonds/fixed income, international stocks, small stocks and value stocks, you end up with a 10.49% return and a standard deviation of 11.59.   That is a higher return with less risk and less volatility.   That is what diversification can do for your portfolio.

When you hear some investment guy throw out the word diversification, now you can have an understanding of what it is, and maybe even teach them a little something about it.  If you want true diversification that lowers your risk and increases expected return, then give us a call.

By Jimmy Hancock

References

1. “Diversification Definition | Investopedia.” Investopedia. Investopedia US, n.d. Web. 25 June 2014. <http://www.investopedia.com/terms/d/diversification.asp>.

2. Matson Money. Separating Myths From Truths, The Story of Investing. N.p.: n.p., n.d. PPT.

Your Investment Portfolio is not Diversified

Diversification seems to be a buzzword that is thrown around by investment gurus way too often.  It is a feel good word that advisors use to sound intelligent and sophisticated.  That is fine and all, but most investment advisors and their clients do not even understand what true diversification in an investment portfolio really means.

What is Diversification?

Diversification is “A risk management technique that mixes a wide variety of investments within a portfolio. The rationale behind this technique contends that a portfolio of different kinds of investments will, on average, yield higher returns and pose a lower risk than any individual investment found within the portfolio.” 1

How do I know if I am fully diversified?

This is where the water gets a little muddy.  This question will bring different answers from different advisors.  Some people would tell you that you need between 5 and 10 individual stocks to be properly diversified.  If you have only 10 stocks you are taking on extreme risk that is not necessary for you to have.   Odds are those 10 stocks are all in a similar place in the market.  Thus all 10 of them will be moving in a similar direction when a crash in the market comes.

Diversification is more than just the number of stocks that you are invested in, although that is very important.  As a result of the funds that our firm, Preferred Retirement Options, recommends, clients may be invested in as many as 12,000 individual stocks.  The most important part about that is that we are invested in every sub category of the market in every free country in the world.  Large companies, small companies, international companies, distressed companies, growth companies etc.  We are investing in different economies and different technology.   It would take an extinction level event for all of those stocks to lose their value.   From the portfolios I have seen, most investors that work with an advisor are invested in only large US stocks in the amount of 500 to 1000 total stocks and call that well diversified.

Why is Diversification so important in your investment portfolio?

Take a look at this chart created by Matson Money. 2

matson diversification

This is a pretty technical chart so let me explain.  This is real data from 1970-2013.   If you were to invest in the S&p 500 you would have gotten a  10.4% return with standard deviation of 16.94.   Sounds great right.  But if you add bonds/fixed income, international stocks, small stocks and value stocks, you end up with a 10.99% return and a standard deviation of 11.07.   That is a higher return with less risk and less volatility.   That is what diversification can do for your portfolio.

When you hear some investment guy throw out the word diversification, now you can have an understanding of what it is, and maybe even teach them a little something about it.  If you want true diversification that lowers your risk and increases expected return, then give us a call.

By Jimmy Hancock

References

1. “Diversification Definition | Investopedia.” Investopedia. Investopedia US, n.d. Web. 25 June 2014. <http://www.investopedia.com/terms/d/diversification.asp>.

2. Matson Money. Separating Myths From Truths, The Story of Investing. N.p.: n.p., n.d. PPT.

3 Rules of Investing

Investing can be very complicated and confusing, but it also can be very simple.  Today I am going to try to simplify investing by discussing the 3 most important parts of putting together an investment portfolio.

1. Own Equities

Equities is just another word for stocks.  Why is this the first and most important rule?  Stocks have historically out performed fixed income over the long term, and that is including the few crashes we have had.  In fact, that battle is not even close, especially now that fixed income has stayed so low the past few years.  Check out this chart which compares the annual return from 1926-2013 of the S&P 500 (Stocks) with Treasury Bills (Fixed Income).

stocks vs bonds

 

 

 

 

 

 

It is obvious to see the long term advantage of owning stocks in your retirement portfolio.

 

2. Diversify

Diversification in your investment portfolio is measured in part by the number of stocks you are invested in, as well as the different categories and countries those stocks are located in.   For example, if you invest in the S&P 500 Index, you are investing in 500 very large US companies.  You are not really diversified at all if that is all you own in your portfolio.

There are many different categories of stocks to invest in.  There is Micro cap (very small companies), Small Cap, Value, Growth, International.  Our company specifically invests our clients in over 12,000 stocks in all of those categories throughout the world.

The benefit of diversification is to lessen the risk that any one stock or group of stocks will crash, go bankrupt etc.   The standard deviation (volatility) of your portfolio can also be managed through proper diversification.

3. Rebalance

Rebalancing at a simple level is just buying low and selling high.  If your portfolio is 50% in Stocks and 50% in fixed, rebalancing would keep it that way through many different market swings.  If stocks go up faster than fixed, then you need to sell stocks (high) and buy fixed (low), and the other way around if the opposite happens.

Rebalancing most importantly keeps your portfolio at the risk preference that you choose, and especially helps to reduce risk in down markets.   It can also give your return a slight boost over the long term as well.

 

Now that you know the 3 rules of investing, you need an investment coach that understands and implements these rules as well.  If you can keep these 3 rules then your retirement portfolio will be in good shape over the long run.

By Jimmy Hancock

 

Reference

Matson Money. The Market Factor. Digital image. Matsonmoney.com. N.p., 23 July 2014. Web. 4 Nov. 2014. <https://www.matsonmoney.com/>.

Millennials and Their Money: 3 Tips for Overcoming Investing Fears

millennialWhen it comes to Millennials and their money, most Americans ages 18 to 29 would rather sit on a boat load of cash. They have a sinking feeling that investing in the stock market is like boarding the Titanic. According to a recent Bankrate.com study cited by a recent The Street article, younger people prefer cash. Of course, cash is a low-yielding investment that’s better reserved for retirees who just want don’t want any risk. How does a young person get over his or her aversion to the stock market?

  1. Investing instead of trading

One way a young investor can get over their fear of losing money in the stock market is by taking a long-term approach. Trading stocks is not the same as investing in the market. Most of the horror stories of people who lost fortunes occurred because they “bet” money on a penny stock instead of “dollar cost averaging” into a particular stock position. Smart investors contribute a certain amount of money on a regular basis so that they build up shares in diversified mutual funds over time.

  1. Not worrying about an immediate reward

A lot of younger people are used to experience immediate gratification because of our highly technical world and consumer-driven society. But investing in stocks can be frustrating in the short term if the market is not climbing at that particular time.  Focus on the long term not the immediate reward.

  1. Diversifying from the start

When trying to figure out how to invest their money, some young people are lost. Their default option is a savings account or possibly certificate of deposits. Other investments include bonds, real estate, commodities, futures, options, precious metals such as gold and private businesses. These should not be your default option and can be risky and or give you very low returns long term.  One way to have a diversified portfolio is by choosing a mutual fund that already includes a variety of different stocks in different sectors and countries and also short term bonds. You can hold highly diversified mutual funds within a 401(k), Roth IRA or many other retirement or regular investment accounts.

Sitting on cash is the equivalent of putting gold under the mattress or burying it in your backyard. Millennials are too smart not to find better ways to invest their money.

 

By Financial Social Media and Jimmy Hancock

3 Questions on Diversification

Why is Diversification so important in your investment portfolio?  Before we get to that question there are other more simple questions we need to tackle.  What is Diversification?  How do I know if I am fully diversified?

What is Diversification?

Diversification is “A risk management technique that mixes a wide variety of investments within a portfolio. The rationale behind this technique contends that a portfolio of different kinds of investments will, on average, yield higher returns and pose a lower risk than any individual investment found within the portfolio.” 1

How do I know if I am fully diversified?

This question will bring different answers from different advisors.  Some people would tell you that you need between 5 and 10 individual stocks to be properly diversified.  If you have 10 stocks you are taking on extreme risk that is not necessary for you to have.   Odds are those 10 stocks are all in a similar place in the market.  Thus all 10 of them will be moving in a similar direction when a correction in the market comes.

Diversification is more than just the number of stocks that you are invested in, although that is very important.   We invest our clients in close to 12,000 individual stocks.  The most important part about that is that we are invested in every sub category of the market in every free country in the world.  Large companies, small companies, international companies, distressed companies, growth companies etc.  We are investing in different economies and different technology.   It would take an extinction level event for all of those stocks to lose their value.

Why is Diversification so important in your investment portfolio?

Take a look at this chart created by Matson Money. 2

 

matson diversification

 

This is a pretty technical chart so let me explain.  This is real data from 1970-2013.   If you were to invest in the S&p 500 you would have gotten a  10.4% return with standard deviation of 16.94.   Sounds great right.  But if you add bonds/fixed income, international stocks, small stocks and value stocks, you end up with a 10.99% return and a standard deviation of 11.07.   That is a higher return with less risk and less volatility.   That is what diversification can do for your portfolio.

By Jimmy Hancock

References

1. “Diversification Definition | Investopedia.” Investopedia. Investopedia US, n.d. Web. 25 June 2014. <http://www.investopedia.com/terms/d/diversification.asp>.

2. Matson Money. Separating Myths From Truths, The Story of Investing. N.p.: n.p., n.d. PPT.