A popular rule of thumb is to own between 12-18 stocks, but this number can change depending on how diverse or manageable you want your portfolio to be. It may be easier to manage fewer stocks, but having more stocks can diversify and potentially protect your portfolio.
Diversification is one of the most important concepts in building a portfolio. Diversification means, quite simply, having a variety or diversity of holdings within a portfolio or between portfolios.
Portfolio diversification can come in two forms:
• Investing in a diverse array of assets (stocks, bonds, real estate, etc)
• Owning, for example, shares of many different companies and different types of companies (large, medium, and small companies, international and domestic, shares of companies in different industries, etc) within a portfolio of stocks or bonds.
How Many Different Stocks Should You Own?
Diversification is known as the “only free lunch,” a supposed impossibility in economics and finance. This means that by spreading out a portfolio across different assets or kinds of a single asset, you can aim toincrease the expected return of a portfolio while not also driving up the risk.
Diversification spreads out the risk that a given company or asset will do poorly for an idiosyncratic reason (an executive gets hit by bus, a building burns down) across many assets, decreasing the possibility that the value of your stock holdings could get tanked by something that is impossible to foresee.
Diversification aims to smooth out volatility. If you own stocks for companies in different industries, when one sector gets hit—say, commodity prices crash in mining—stocks in a different sector where commodities are a major cost, like manufacturing, can go up. This can also be true across different types of investments, which don’t always move in the same direction.
How Many Stocks Should You Have in a Diversified Portfolio?
A popular rule of thumb is to have around 12 to 18 stocks in your portfolio to achieve diversification. However, another academic estimate puts the figure for diversification 83 to 99.
For stock funds—large collections of stocks managed by professionals and invested in by individuals and institutions—the average number of stocks held is 77.
In considering diversification across assets, it makes sense to consider individual risk thresholds. One example is a typical investment approach used for retirement: A portfolio might be more heavily tilted towards stock when the individual is younger and can wait for those investments to grow, transitioning away from stocks over time as the individual’s risk tolerance goes down and they get closer to drawing on that money for retirement.
How Many Stocks Can You Buy?
The number of stocks you can buy will depend mainly on:
• Trading rules set by the company
• Your budget
There is no universal limit on how many stocks an investor can purchase. However, companies may have rules in place that prevent traders from buying up a large number of shares.
With those rules in mind, you can buy as many shares as your budget allows. Keep in mind that there may be fees associated with your stock purchases.
How Many Shares Are in a Company?
It varies. Companies of all sizes and revenue amounts can have a wide range of outstanding shares.
The average number of shares for the five largest U.S. companies by market cap is 5,628,896,000*.
However, as you can see, the number of shares for each company varies widely. In this case, the fewer shares a company has, the more expensive their stock is likely to be. That’s because market capitalization is calculated by multiplying outstanding shares by the stock price.
For instance, Microsoft is currently trading at around $245 a share. Apple, which has a little more than double the number of outstanding shares as Microsoft, is currently trading at around $125 per share.
Conversely, when you look at startups, it is typical for them to have around 10 million shares. As time goes on, younger companies may end up splitting their stock thereby increasing the number of shares on the market.
Rules for Day Traders
Another consideration around how many stocks you can buy are day trading rules.
According to FINRA rules, a pattern day trader is:
Any customer who executes four or more “day trades” within five business days, provided that the number of day trades represents more than six percent of the customer’s total trades in the margin account for that same five business day period.
A day trade would include buying or selling or selling and buying the same stock in a day.
Pattern day traders can only trade in margin accounts and must have a minimum of $25,000 in their accounts. If you are not a designated pattern day trader, you cannot buy and sell and/or sell and buy the same stock four or more times in a five-day period.
For more information about day trading rules and maximums, contact your brokerage directly.
Getting the Right Balance in Your Stock Holdings
Another approach to diversification is to largely invest in large indexes, which track entire industries or even the entire market. Innovations like index funds, which are mutual funds that track indexes, and exchange-traded funds (ETF), which can be bought and sold like stocks, have made it simpler for investors to achieve diversification according to their goals, in a single investment vehicle.
Balancing a Portfolio Through Index Funds
When John “Jack” Bogle, founder of the Vanguard Group, created the Vanguard 500 Index Fund in the 1970s, it was the first of its kind. His vision was to put investors in the driver’s seat by offering them a low-cost way to invest in the entire market.
The Vanguard 500 Index Fund is a mutual fund that tracks the entire S&P 500, a collection of 500 large cap stocks and is used as a general barometer for the health of the market. These companies are distributed across numerous industries, like information technology, finance, healthcare, and energy.
Today, index funds seek to track either the S&P 500 or the Russell 2000, taking investor capital and buying every stock in that index. They typically have to buy the stock in accordance with its “weight” in the index, typically its market capitalization, or the overall value of a publicly traded company’s shares. This means that the fund will be more heavily invested in the shares of the more valuable companies in that index.
Index funds make it easy for the average investor to buy into the market and achieve instant diversification. They’re affordable, too, with lower fees thanks to taking expensive fund managers out of the equation.
Diversifying through ETFs
The first ETFs were launched in 1993, and since then they’ve become one of the most popular vehicles for investors—in part because they come with a lot of the same benefits of index funds, like low fees and instant diversification.
ETFs might be the closest thing to automatic investing or investing in easy mode. While an ETF can be bought and sold like a stock, they don’t need to be made up of stocks. ETFs can be made up of bonds, commodities, or even currencies.
ETFs allow an investor to track the overall performance of the group of assets that the ETF is made up as—and, like a stock, the ETF’s price changes constantly based on the volume and demand of buying and selling throughout the day. ETF “sponsors,” the investment companies that create and manage the funds, rely on complex trading mechanisms with other sophisticated participants in the market to keep an ETF’s value very close to the value of the underlying components (the stocks, bonds, commodities, or currencies) that it’s supposed to represent.
So how many ETFs should you own?
For a balanced and diversified portfolio, you may only need two ETFs:
• A global ETF that tracks the performance of small-, mid-, and/or large-cap companies worldwide
Typically, these world stock market ETFs track the Morgan Stanley Capital International All Country World Index (MSCI ACWI)
• A total bond market ETF that can provide investors exposure to a large, market-weighted bond index.
Depending on what you choose, some total bond ETFs may track Barclay’s U.S. Aggregate Bond Index.
Choosing Stocks vs. Investing in Funds
When it comes to buying individual stocks, there’s a lot to consider. And while there is available information about a given company—including its past financial results—that can inform a thoughtful decision, its value going forward will be determined by things that are unknown. Is the industry overall going to grow or shrink? Could the performance of that company be affected by political events overseas or at home? Are there potential disruptors who will eat up its current share of the market?
In addition, the performance of a company is not the same as the performance of that company’s stock. A company can have great, consistent profits in a growing industry and a politically placid environment. But the price of that stock might be high. When it comes to buying, it’s important to consider the potential of future price increases. If a stock has already done well in the past, the future growth and appreciation could be minimal.
In building a diverse stock portfolio on your own, you’ll likely go through this research and consideration process with many—possibly dozens—of stocks.
Index funds and ETFs offer instant diversification, taking the guessing game out of trying to buy stocks. What’s more, chances are if there’s something an investor is passionate about, there’s an ETF for that. There are funds for clean energy, ones that focus on machine learning and artificial intelligence, even ETFs focused on organic food and farming.
When it comes to investing in index funds, the process is a bit different. Once an investor figures out what kind of market they’d like to track—like all the stocks in the S&P 500—they can look at two important factors. The first is “tracking error”: How well does the fund track the value of the stocks it invests in? The second is cost. All things being equal, a less expensive fund, a fund with lower fees and lower costs devoted to marketing, trading, and compensation can mean more profits for the buyer.
No matter how an investor creates a diverse stock portfolio, it’s important to remember that all investments come with risks that include the potential for loss.
Diversification—investing in more than one stock or other investment—is an important consideration when building a portfolio. But building a diverse stock portfolio can be achieved in many different ways, whether an investor lets their passions for an industry or certain companies guide them, or they are attracted to the ease and low barrier to entry of an ETF. The key is to find the approach that works for each individual.
Once an investor has done the research, figured out what kind of diversification makes sense, and decided just how many stocks they should own, they might be ready to take the first steps to build a portfolio that’s just right. See how SoFi ETFs and active investing can help you get started on your goals.
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Investment Risk: Diversification can help reduce some investment risk. It cannot guarantee profit, or fully protect in a down market.
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