Although about 30% of my public equity portfolio is invested in individual stocks, I don't recommend the average non-obsessed person invest more than 10% of their portfolio in individual stocks.
The main reason why is because it is hard to outperform the various indices over the long term. Although there are no fees for owning individual stocks versus owning index funds, there are bigger costs associated with owning individual stocks.
Namely, your time and attention! The loss of time and the need for your attention are the most important reasons not to invest in individual stocks. Unless you are an investing nut, you will have better things to do with your time and energy.
Recently, I was reminded about these much greater costs of owning individual stocks when Bed, Bath, and Beyond started shooting up like a rocket ship again. As a proud shareholder of BBBY, I was pleased!
Then I looked more closely at my rollover IRA.
Investing In Individual Stocks Requires A Lot Of Attention
Back in 2014, I bought a fixer-upper in the Golden Gate Heights neighborhood of San Francisco. At last, I had found an affordable panoramic ocean-view home!
As frugal folks, we decided to go to Bed, Bath, & Beyond to pick up some curtains, pillows and linens. While there, we were greeted by a friendly clerk who asked if he could help us find what we were looking for.
Somehow, Greg, the clerk, ended up telling me an inspiring story about how he'd gotten off the streets and overcome alcoholism. He'd been able to secure an affordable room in an apartment building and been sober for the past five years.
I was so inspired by Greg's story that I decided to purchase $11,000 worth of Bed, Bath, and Beyond stock the next day in my rollover IRA. At the time, my rollover balance was around $400,000, so the position only accounted for about 2.8% of my portfolio. Also, it is in my rollover IRA where I will trade stocks due no tax consequences until withdrawal.
I've always enjoyed buying companies whose products I use. So I figured why not.
Meme Stock Mania Reignites
Given the position size of my Bed, Bath, & Beyond holdings, I forgot about the stock until I started seeing the recent headlines over Twitter talking about how BBBY was on fire! The stock was up over 400% in just a month!
The first thing I did was check my rollover IRA to see whether I still owned shares. You see, I didn't even remember whether I did or not. And if I did, I didn't remember how many shares I owned!
When I checked, I was dismayed. I only owned a measly 200 shares! Drat, that wasn't even enough to take my family to Hawaii for 10 days. Even more dismaying was that even after the ramp-up, I was still down around 60% from my 2014 purchase price!
Due to the size of my initial purchase price of BBBY, I hadn't paid close enough attention to the shares after purchase. So what happened since 2014 to cause BBBY to underperform by so much? Taking on too much debt and Amazon.
For the past decade, Amazon has been eating big box retailers for lunch. I knew this, everybody knew this. Heck, one of the reasons why I have owned Amazon shares for over 10 years is because I believed in this secular online trend. Yet, I still didn't have the memory or make the rational conclusion to sell my BBBY stock.
Why Investing In Individual Stocks Is Hard
1) The lifecycle of individual companies is not forever. Plenty of big companies in the past no longer exist today for various reasons. Think Pan American Airways, Enron, Lehman Brothers, Worldcom, and Washington Mutual. As a result, no matter how strong an individual company may seem, you always have to pay some attention to it.
2) Competition is always intensifying. If a company makes a profit, economic theory states that other companies will compete until industry profits decline to zero. If profits decline to zero or negative for long enough, companies and industries get destroyed. Therefore, it is safer for long-term investors to invest in an index fund comprised of many companies. Investing in an index fund significantly reduces the possibility of losing money based on the destruction of companies and entire industries.
3) Volatility can be much greater. Some stocks move up and down greater than others. The more volatility a stock demonstrates, the more emotion you might feel. Extreme emotions such as greed and fear are the worst enemies of individual stock investors.
4) You might not own enough stock to make a difference. If you don't know how to properly construct a risk-appropriate portfolio, your individual stock positions might not be significant enough for you to pay attention. When you don't pay proper attention, you could let your losers lose for far too long.
5) You might own too many stocks to make a difference. On a similar vein, you might own so many individual stocks that you might not care what they do. The lack of discipline may also end up hurting your portfolio. At the same time, if you concentrate too much of your portfolio on one stock, you may be overly stressed and underperform if the company turns sour.
Index Funds Are Also Actively Managed
One thing index fund and index ETF investors might not realize is that these funds are also actively managed.
For example, there is an investment committee at Standard & Poor's that decides which companies get to be included in the S&P 500 index. Tesla, for example, was included in the S&P 500 index on December 21, 2021. Tesla replaced Apartment Investment and Management REIT in the index.
If you own an iShares S&P 500 Index Fund, there is also an investment committee at BlackRock which buys and sells companies in its fund to mimic the changes in the S&P 500 index. The changes to the S&P 500 index and other large index funds are just generally slower than the changes in a typical actively run mutual fund.
As an investor, you are actually happy the S&P 500 is actively managed. Because at the end of the day, the investment committee at the S&P 500 wants to have a strong-performing index that reflects the health of the U.S. economy. Otherwise, another institution will come up with a better index fund.
You Have To Enjoy Investing To Invest In Individual Stocks
If you have no interest in reading about the stock market and economic news, listening to quarterly earnings calls, and analyzing companies, you probably shouldn't be investing in individual stocks. You really must be obsessed with investing to own individual names.
For people who are interested in investing enough to read personal finance sites, I think the proper split between passive and active investing is about 90% passive index funds / 10% active individual stocks. After all, if you only invest in passive index funds, you'll never be able to outperform the masses who only invest in passive index funds.
Even for investing enthusiasts, I think the most one should invest is 30% in individual stocks and active funds. Much more and you're likely taking on too much active risk, which will likely cause long-term underperformance in your public equity portfolio.
Remember, roughly 80% of active equity fund managers underperform their respective indices over a 10-year period. Yes, we would all like to believe we are the 20% who outperform. But the data is against us. See the percentage of mutual funds underperforming over 10 years for yourself.
Keep Your Investing Simpler So You Can Be More Free
My main reason for investing now is so the investments can generate enough passive income so I can do what I want. I no longer want to spend a lot of time managing my investments. I'm simply too busy with fatherhood, writing, and tennis. One hour a week maximum is the most I'm willing to spend reviewing my investments.
When I was working in finance for 13 years and didn't have kids, I was all over my investments. It was incredibly exciting to work in equities and invest in equities. It was my world where hunting for multi-bagger unicorns was a sport! Today, my world is my family.
As you get older, you will find that cash flow is more important than net worth. Cash flow is what's real. Net worth is subjective. Net worth becomes a scorecard for your ego, especially once you have way more than you need to survive.
A Reminder To Pay More Attention To Equities
This latest absurdity in BBBY's share price has reminded me to pay more attention to equities.
Although public equities account for about ~30% of my total net worth and are 100% passive, I still need to pay better attention. For years now, I've been letting the vast majority of my positions ride the bull market. Now things are shakier.
I will endeavor to invest at least 70% of my public equity portfolio in the S&P 500 and other indices. Then, I will be more purposeful in reviewing my individual stock holdings once a month.
Today, I mainly want to invest in long-term winners with defensible moats. Trading in and out of position is a waste of time. However, I do need to be vigilant about selling companies that are losing their competitive advantage.
The biggest benefit of investing in real estate and private funds is that they are more conducive to investing over the long term. Unlike stocks, I'm not worried my real estate holdings will decline by 30% one day after missing a quarterly estimate by 5%.
However, there's also only so much physical real estate one can own before the pain of managing them is too much. Thankfully, we can now invest in real estate online for 100% passive income. The wealthier you get, the more you will be amenable to letting professionals manage your money for you.
What To Do With My Bed, Bath, And Beyond?
Will I sell my 200 shares of Bed, Bath, and Beyond? Yes. I sold half and will just hold onto the remaining 100 shares for entertainment. After all, what if it ends up being the next GameStop? The stock could also go to zero.
My BBBY stock is now worth less than 0.3% of my entire portfolio. So you see, investing in individual stocks plays with your head and wastes your time. Keep your investing simple!
Even though I'm down $6,000+ on my BBBY dog meat investment, at least I'm up a lot more on the property I bought in 2014. Psychologically, I'm going to take the estimated market value of my house and subtract $10,000. At least I got some nice curtains and linens!
Reader Suggestions
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One reason I have some individual stock is that I like to match yearly expenses with their dividends (or dividends from a competitor). For example, my verizon and telecom holdings cover my cell phone bills. My WM holdings pay for my garbage service, and my energy holdings pay for my utilities.
Its a fun way to feel like when I pay those bills its really just an exchange of cash. It also protects these expenses against inflation.
I could not agree more. I think of the 3 biggest companies in the Bay Area in the 80’s and 90’s; Amdahl, Sun Micro Systems and 3Com, all gone now. No matter how much you stay on top of your stocks you could not have known about the fraud committed by USR that took down 3Com.
I remember buying call options for MCI Worldcom in early 2000. Then it went bankrupt. Whoops
“As frugal folks, we decided to go to Bed, Bath, & Beyond to pick up some curtains, pillows and linens.” I goto Target instead, even more frugal :-)
I have more individual stocks than I’d like to admit and am slowly trying to reduce those positions.
My biggest holdings are ETFs though, Vanguard Growth, S&P and Total Market.
Earning my MBA taught me that individual investors could not beat the market. Year later, I discovered that this was not entirely true (knock on wood). Individual investors can beat the market, just not the majority of them. In my case, my interest in science fiction led me to become a science junkie, reading all the articles I could find on cutting edge research and technology (and, to a lesser degree, how it impacts society and economics). Becoming something of an amateur futurist, I read a lot and wrote a lot.
After a couple or three decades of watching almost everything that people around me had scoffed at, when I first suggested it, come to pass (or be on target to come to pass) it dawned on me that I should be able to monetize this.
I finally did. I do considerably better than market average while not taking any crazy risks or trying to apply leverage. I don’t try to look for the next pet rock, or super-popular phone app, or such. I don’t look for specific products or firms at all. I look for funds that invest in areas that I think are where the future is going, and for fund managers that invest in those areas and have a long enough track record that I can see how they did in bad times, as well as good.
I don’t invest in equities. I invest in where I see the future going, and I invest in fund managers.
Small confession: And I scratch my occasional DIY itch by keeping a small brokerage account of just a few hundred k on the side. I fill it with individual stocks (never more than a dozen) that I have picked based more on intuition than numbers (although the numbers also have to be there before I will issue a buy order) and I never sell anything in less than a year if I have a capital gain. Given how it’s been doing the past five years or so, I wish I’d had the guts to put a lot more than 50k into it, initially, or to add more into it (a lot more) since.
I think that’s precisely the advantage of investing in individual stocks : the worse that can happen is you lose 100% of an investment. The best is you get a homerun.
I have around 100 individual stocks and it’s 100% of my investments.
My homeruns are always stocks that I completely forgot about. Then, someday I realize they have multiplied by 3-fold, 4-fold or 5-fold. The latest examples of this were Deere and McKesson. Today, this is obvious they would benefit from the pandemic and resulting high inflation. But when I bought them, 10 years ago, I had no idea this would happen and that they would generate this much profit.
Some of my investments turn out to be bad investments. Worse that can happen is that I lose 100%. But in reality, I never lost more than 50%. Intel is a good example of a non-performing stock. It should have been obvious to me 5 years ago when Nvidia and AMD released better chips, but I didn’t sell Intel back then. Now, the percentage of allocation for Intel in my portfolio is so small that it is almost irrelevant. So, the market has eliminated naturally this non-performing stock from my portfolio.
Obviously, I could sell completely and move on or I could buy a large position if I think they could turn the business around. But I have no clue how they will do in the future. So, I won’t do anything and let the market do its thing, either Intel makes a come back or continue to decline.
As for Bed, Bath & Beyond, it’s not a company I would invest in. The financials are just absolutely terrible. I think that it’s an excellent candidate for bankruptcy.
Other retailers seems to do much better, like Restoration Hardware, Sherwin-Williams, Williams-Sonoma or TJX (HomeGoods). Competition is very rough in that field. It’s not just Amazon. So, like you said, we have to keep up with what happen in the market and make sure the performance of the companies we invest in is up to our standards.
But even if you don’t, the market will take care of itself, hence the idea of passive investing…
If you have 100 positions, you basically have an index fund. Please don’t confuse individual investing with just creating a fund.
Unless managing your portfolio is a full-time job, It’s gonna be hard to properly manage 100 positions.
But you do you! How is your portfolio doing this year?
Yeah it’s basically an index fund (maybe 80%) with a small portion of active management (maybe 20%).
Not all positions have the same weight though. My largest positions are close to 10%. And I have many positions that are very small.
Basically, when I really like a company, but I am very unsure how it will perform, I buy a very small quantity. This makes me a shareholder of the company and relieve me from the FOMO of not buying any shares and missing out completely if the company really does well.
On the other side, when I really like a company, and I am very certain the stock is undervalued, then I buy more and more, up to around 10%. This way, I never lose too much if something bad happen.
Actually, my 15 largest positions make up 50% of my portfolio.
My return is flat so far this year : -0.24%. This does not seem good. But I have some positions that have done very well although the majority of stocks are down a lot, like everyone else…
It’s a strategy based on a mix of Peter Lynch and Benjamin Graham.
I’m trying to always learn, improve and do better. So, I’m doing this way for now. But maybe I’ll do things differently in the future.
Your outperformance is excellent. What do you own that caused such massive outperformance while owning 100 stocks? That is extremely hard to do, outperforming by over 10%. It puts you probably in the top 0.1% of fund managers.
Are you a professional investor? If not, what are you do for a living? Thx
Since market are highly volatile, there is always a bit of luck in any outperformance. And the year is not over yet. Let’s just hope I’m able to maintain this performance going forward.
The two main reasons for this result in 2022 are :
– My two largest positions are in oil companies, one is a oil producer, and the other is a gas station owner.
– I moved to a more defensive position in 2021 – buying foods companies, consumer staples and utilities and reduced my exposure in tech, semiconductors, industrials and financials.
I’m not a “professional investor” per say. But I worked in corporate finance, preparing financials statements for many companies, most of them small private companies. But some of them public listed companies. So, I have a good understanding of how companies operate from the inside.
Congrats, you just created an index fund. You could have paid 0.08% to Vanguard for even more diversification, lower beta and less work.
That’s true. But I would have missed a 10.1% outperformance over the S&P500 this year alone.
This is crazy how people focus on a small 0.08% management fees, yet totally miss the point on the possibility to get excess return …
But, I guess, everybody commenting on social medias have to be negative. Wish there would be more positivity out there.
Sorry if I was rude in my initial response. I think there is some misunderstanding ..
It’s fair to say I created an index fund. But it is “my” index fund, not just “any” index fund managed by Vanguard, BlackRock or Fidelity. Like the S&P500 will be different from the NASDAQ, FOOTSIE or Nikkei 225, the performance of an index fund depends entirely on the companies that are included in the index. And since I select the companies myself, it would not possible to buy “my” index fund through Vanguard or any other index fund provider.
Also, “index fund” generally mean that position sizes are predetermined, either based on market capitalization or on an equal weight basis. Which is not the case here since I choose the size of each position myself.
I think a more appropriate term would be a “mutual fund”, since there is still some part of active management in what I do, although most of it is totally passive.
Hope this additional information can be useful. I was trying to show it is possible to invest in individual stocks and be succesful.
Also, like Peter Lynch said, I think having a lot of stocks can be an advantage, and not a disadvantage, as long as you diversify intelligently, as that you avoid “diworsification”, which essentially means adding bad investments to your portfolio.
Don’t own a single individual stock. No reason to. 100% in indexed funds/ETFs.
as an investor for 25 years i learned nothing worse than watching the spy index tack on 8% in a week and i look at one of my growth stocks down 20% on a bad earnings report the same week. missed out on the Div too. just not worth it. i also think holding the spy insulates you from the massive shananags (read manipulation) that you have with many individual stocks. i limit myself to one retirement account with 10k for “fun” trading. i will try to catch a gme or bbby on these wild swings either way. 0.04% of net worth.
Hi Sam, sound advice indeed. It is hard to manage stock picks, and I agree there is a limit to what any one person can handle effectively. I too am defensive right now preferring Cons Staples, Utes, and the Dollar. Vanguard has great ETFs for all this.
Good morning, Sam! I’ve always found the statistic about hedge fund manager missing their targeted indexed return fascinating. Why is there so much money flowing into these underperforming funds? Greed? Hope?
Or are there are other ways to measure performance painting them in a different light? Let’s say a fund underperformed the S&P500 by 10%, but had 20% less volatility or risk, could you consider it a superior risk adjusted return to the S&P500?
Is that an acceptable way, (in your opinion) to think about the hedge fund model?
Regarding individual stocks vs index investing. We invest 95% into indexes, blended between the NASDAQ and S&P500. The other 5% are spot purchases when I think there’s value or speculative bets (I.e., when the price of oil turned negative, bitcoin, etc).
I’ve only purchase a stock once when it took off and I was unaware. I invested in 8×8 in college which at the time said they did telecom in the cloud (whatever that meant)
Totally forgot about it for years and it had gone up about 500%! Problem was; I only invested around $50. I guess the prospect of having beer money outweighed my personal finance convictions at the time.
I have 6 individual stocks that are in total 6% of our net worth. But I have a lot of active funds, both listed and unlisted. The biggest three of these are Tribeca Global Resources (TGF.AX), Pershing Square Holdings (PSH.L) and Regal Funds (RF1.AX). Three hedge funds.
The only passive fund I have is a gold ETF (11% of net worth).
I love individual stocks. I spend about 3 hours a day researching, reading or watching the stock channel. I currently have 35 percent of my equity exposure in individual stocks. Close to 15 percent of net worth. I’ve beat the market the last 3 years but I’m trailing the market by 5 percent this year. I’m not a big fan of bonds so I buy stocks like Ed, T, Dvn and mo for my bond equivalents. I’ve had 3 stocks I owned be delisted and go to 0 so I’ve learned a lot over the years. If I can’t explain what a company does to a non investor I won’t buy them anymore. I limit myself to 10 stocks, listen to their earning calls and know how to read a balance and cash flow statement. I”ve been learning slowly about options the last few years and in the current market I’ve been doing really well with covered calls. I’m probably delusional but I think I can be the the 20 percent that can beat the market. I’m also smart enough not to bet the farm on me achieving that goal.
P.S. my favorite long term stock is AMD
You are not delusional. Keep it up. Many behind you.
Hi Sam, thanks for the article!
You wrote, “Roughly $160,000 of my annual passive income comes from real estate.”
Is that income just from the $810,000 you invested in Fundrise or does it include income from the rental properties you personally own (if you don’t mind me asking!)
Hi Rachel, ~$160,000 is from all sources of real estate holdings. The yields and returns from private real estate online are much higher than my yields owning physical San Francisco rental property because my online real estate is mostly in the heartland.
When you invest in the Fundrise funds is all your money in the income, balanced, or growth funds? Or did you put them in individual offerings like the Heartland REIT?
There’s a lot of survivorship bias in the media when it comes to individual stock performance. I know you hit on Tesla and a few others, and in hindsight they seem inevitable (maybe Tesla was), but I enjoyed this perspective on one that didn’t work out. You gotta play to win, so if you want the outsized gains that can come with individual stocks, it means taking on the added risk. But I discovered that the stress of owning individual stocks accounted for a much larger percentage of personal anguish than it should have relative to the position size in my portfolio. I still own a few individual names and will likely still dabble at very small percentages of my account, but for the most part my foray into individual stocks reinforced indexing as my personal philosophy.
Yes, the stress and anguish is disproportionately higher, so then you end up taking small positions that don’t really move the needle.
Thanks for reminding me about my tesla stock position. It is in a taxable brokerage account and I’m glad it has rebounded. Now the problem is not wanting to pay taxes by selling since I don’t have it in my rollover Ira.
I own about 3% of my portfolio in individual stocks. It’s fun for me to load up Morningstar and read their undervalued stocks. Then spend some time reading into the recommendations and invest in those that I see have a future. One of my favorites lately is midstream stocks (mainly equitrans midstream). Since I started college it’s been a fun hobby for me. However, I tried betting big money once and I didn’t sleep well at all during that time. My risk tolerance is low outside of index funds. I end up pulling my money out quickly once I see I’ve made more than 5% when I’ve put more than 10% of my portfolio on it only to day dream about what would have happened had I left it in. I bought occidental when it was at $38 only to find out Warren Buffett bought some later that week. I sold at 40 when it ended up getting 60 just a few days later. It ends up causing regrets for me…
I think the same can be said for investing in real estate! Unless you’re obsessed, average returns are much worse than an index fund!
I don’t have a story, or a direct experience I want to share – the post is comprehensive and self-contained. BUT I feel a natural sequel to this post is a comparison the index funds and robo-advisors. You, Sam, wrote previously about robo-advisor platforms alone. However, what is your expert comparison and analysis of robo vs index funds and how do robo’s enter the investing split equation/ratio. Does it even make sense to invest in both, in parallel? Why? If not, why not? What are the benefits and shortcomings one versus the other. You may have written about that comparison elsewhere, but I don’t remember it…
Great questions. I’d love to hear your thoughts. Because each row Budweiser is different in the plans are tailored to each person’s goals and risk tolerance.
It’s funny, the Apple stock app has had 3 articles on BBBY this morning. Looks like you got out just in time.
Nope. Getting out just in time would’ve been several months after I purchase the stock in 2014 and saw the stock go up about 30%. I wrote this baby down by over 60% over the past eight years.
Well, yeah. At least this LATEST move was on point.
Oh yikes. That must have been a big disappointment to see your LTD return in the recent ramp up. But at least your exposure was low. I agree that investing in single name stocks can be risky business and really takes a strong interest and a lot of time to do it well. And even still there’s no guarantees. It’s so true that there are hundreds of active fund managers out there who lose tons of money on single names all the time. I gave up on single name stocks in my mid 20s because I just wasn’t any good at it and lost money on all of them. I’ve done much better with ETFs and diversifying outside of equities.