In the same way a portfolio can have too few shares, it can have too many – one investment is not enough, 50 may be too many.
So, what do the experts say? In The Intelligent Investor, Benjamin Graham states the magic number of investments is 10-30. In A Random Walk Down Wall Street, Burton Malkiel says 20 shares is optimal.
A study by US gurus Frank Reilly and Keith Brown found portfolios should hold 12-18 shares to gain about 90 per cent of the maximum benefit of diversification. These similar conclusions seem a good starting point.
While “how many shares should I own?” is a good question, perhaps it’s not exactly the right one.
Most of us have personal biases or preferences that skew our behaviour when constructing a portfolio. We may prefer a particular sector, domestic shares, or a style of share (for example, value shares).
Say you decide to hold 10 mining shares instead of one in your portfolio. Or 10 small-cap companies rather than two. Or you only own Australian shares. Perhaps you own 20 stocks but one of them comprises 80 per cent of your portfolio.
Advertisem*nt
In each situation, even if your overall portfolio contains 20 shares, you haven’t reduced risk via diversification. Each involves concentration in another form – increased sector, style or geographic risk.
No matter how many shares you own, adequate diversification is dependent on what’s in the portfolio (how correlated they are) and the level of concentration. If you own 20 shares, ideally you want them random (ie not correlated) and equally weighted (for example, 5 per cent of the portfolio each).
To complicate matters further, how you invest in shares is important. You can gain instant diversification by simply adding one (or more) cheap exchange-traded funds or a more expensive active managed fund to your share portfolio. This is the easiest, fastest and cheapest way to resolve this issue.
If your investments grow in number over time because you don’t sell them as you buy new ones, make sure you periodically reevaluate each share. Ensure the rationale for owning each remains valid – a long list should not be an excuse for hanging on and hoping. Remember it’s good practice to hold most shares for at least a year to avoid paying higher capital gains tax.
The answer to how many shares you should own depends on your risk tolerance. New investors piling into meme stocks happily invest in a few concentrated investments. If they pick the right stocks, are lucky and sell in time, they will make a lot of money. However, other outcomes can be very different.
In truth, there is no magic number of investments. However, financial theory and experts provide a framework you can apply to your unique situation based on the amount of risk you want to take. As a good general rule, most successful investors hold 10-20 shares in their portfolios which greatly reduces risk.
