How Many Stocks In A Portfolio?

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How Many Stocks In A Portfolio?

Post by Park »

I found the two thread below to be useful in determining how many stocks to have in a portfolio.

https://seekingalpha.com/article/362834 ... -diversify

https://seekingalpha.com/article/397062 ... sting-know

"We often hear that many of the richest investors are concentrated investors.

The fact that most of the poorest investors also happen to be concentrated investors is rarely, if ever, mentioned.

This is somewhat strange given that the latter (unlucky losers) vastly outnumber the former (lucky winners).

To ignore these losers is to be fooled by survivorship bias"

The first way to address this issue is to minimize volatility, which is a surrogate for drawdown.

"Owning just 10 stocks eliminates 51% of portfolio volatility (i.e., diversifiable risk). Adding 10 more stocks eliminates an additional 5% of the volatility. Increasing the number of stocks to 30 eliminates only an additional 2% of the volatility. And that's where the good news stops, as further increases in the number of holdings don't produce much additional volatility reduction."

"it's possible to derive most of the benefits of diversification with a portfolio consisting of 20 to 30 stocks (assuming they're diversified across industries, geographies, and market capitalizations)."

'Research suggests that 20-30 stocks eliminates nearly all of the diversifiable risk. It's important to remember, however, that these studies use Gaussian statistics . . . the market, unfortunately, is rarely Gaussian."

The second way to look at this is the avoidance of permanent loss.

"My 1/N rule is a simpler and more robust diversification rule."

"The denominator "N" is the maximum percentage (of your equally-weighted portfolio) that you can afford to lose if one of your stocks goes bankrupt. For the typical investor, it's about 5% - the equivalent of owning 1 / 0.05 = 20 stocks. If you happened to be a more conservative investor, it might be 1% or even lower, in which case you should own at least 1 / 0.01 = 100 stocks."

"Equal weighing is the most robust approach as it doesn't require you to make precise predictions about which assets will outperform/underperform"
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Re: How Many Stocks In A Portfolio?

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I have modeled our portfolios using the approach described in the second article. The information that I read when I was getting started talked about 20-30 stocks that were (roughly) equal weighted as being the ideal for gaining approximately 85% of the diversification benefit of the market while still being manageable in terms of workload. It has worked for us and as a side benefit the careful (or lucky) selection of stocks to provide effective diversification has resulted in a portfolio with less than market volatility.

Loss avoidance has also played a role in keeping positions within a 2% to 6.5% band of assets (depending upon how they have performed over the years). I've had a few go bad (although none to zero while I owned them) and this has protected us from a catastrophic loss. It has also driven rebalancing via profit taking.
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Re: How Many Stocks In A Portfolio?

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scomac wrote: 30 Nov 2017 02:43 I have modeled our portfolios using the approach described in the second article. The information that I read when I was getting started talked about 20-30 stocks that were (roughly) equal weighted as being the ideal for gaining approximately 85% of the diversification benefit of the market while still being manageable in terms of workload. It has worked for us and as a side benefit the careful (or lucky) selection of stocks to provide effective diversification has resulted in a portfolio with less than market volatility.

Loss avoidance has also played a role in keeping positions within a 2% to 6.5% band of assets (depending upon how they have performed over the years). I've had a few go bad (although none to zero while I owned them) and this has protected us from a catastrophic loss. It has also driven rebalancing via profit taking.
Essentially the same ideas as us. 30 seems to be a sleep at night number to manage.

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Re: How Many Stocks In A Portfolio?

Post by Peculiar_Investor »

scomac wrote: 30 Nov 2017 02:43 I have modeled our portfolios using the approach described in the second article. The information that I read when I was getting started talked about 20-30 stocks that were (roughly) equal weighted as being the ideal for gaining approximately 85% of the diversification benefit of the market while still being manageable in terms of workload.
Sounds like you and I started around the same time because that is essentially the model that I've used as well.

As a counterpoint to the Seeking Alpha articles and as some further background, William Bernstein's The 15-Stock Diversification Myth
William Bernstein wrote:One of the most dangerous investment chestnuts is the idea that you can successfully diversify your portfolio with a relatively small number of stocks, the magic number usually being about 15. For example, Ben Graham, in The Intelligent Investor, suggests that adequate diversification can be obtained with 10 to 30 names. In a classic piece in Journal of Finance in 1968, Evans and Archer found that portfolios with as few as 10 securities had risk, measured as standard deviation, virtually identical to that of the market. Over the decades, the "15-stock diversification solution" has become enshrined in various texts and monographs, most famously in A Random Walk Down Wall Street:
  • By the time the portfolio contains close to 20 equal-sized and well-diversified issues, the total risk (standard deviation of returns) of the portfolio is reduced by 70 percent. Further increase in the number of holdings does not produce any significant further risk reduction.
However, the kicker is Bernstein's conclusion,
William Bernstein wrote:So, yes, Virginia, you can eliminate nonsytematic portfolio risk, as defined by Modern Portfolio Theory, with a relatively few stocks. It’s just that nonsystematic risk is only a small part of the puzzle. Fifteen stocks is not enough. Thirty is not enough. Even 200 is not enough. The only way to truly minimize the risks of stock ownership is by owning the whole market.
If I were starting my investing career over, and as I have advised my children, buying a broad-based index (i.e. owning the whole market) for each asset class, at as low as cost as possible is highly likely to be the best approach, particularly since it involves little ongoing effort and maintenance other than periodic rebalancing.
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Re: How Many Stocks In A Portfolio?

Post by LAJ »

I am by no means a sophisticated investor. Whenever I read about diversification and how many stocks gets me there, I seem to get hung up on which stocks one is speaking of. To compare a BAM type stock to an CSH type stock is like comparing an apple to a fruit salad. How does one reconcile the built in diversification one gets by holding a diverse company to begin with?
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Re: How Many Stocks In A Portfolio?

Post by Park »

http://investorfieldguide.com/2014115ho ... portfolio/

https://acquirersmultiple.com/about-us/

"Pat O’Shaughnessy did some interesting research examining exactly your question (monthly rolling 1-100 holdings)...He initially found the buying the best 5 gave the best returns, and the best 15 gave the best risk adjusted returns." See the first link.

"(I have seen some revised research of his that suggests the best one gives the highest returns and the best 25 give the best risk adjusted returns)"
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Re: How Many Stocks In A Portfolio?

Post by FinEcon »

LAJ wrote: 30 Nov 2017 09:00 I am by no means a sophisticated investor. Whenever I read about diversification and how many stocks gets me there, I seem to get hung up on which stocks one is speaking of. To compare a BAM type stock to an CSH type stock is like comparing an apple to a fruit salad. How does one reconcile the built in diversification one gets by holding a diverse company to begin with?
As you've noticed, they don't. Which is why a knowledgeable, intelligent investor disregards what they have to say on the matter. If you were looking to obtain a franchise or an apartment building you wouldn't ask Bernstein what he thought, you would do the work yourself. These guys are more interested in parroting the party line they subscribe to and are more niceh authors than investors from what I can tell.

Not all that different than the gold nutters or other kooks albeit they have pseudo sophistication in their writing.
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Re: How Many Stocks In A Portfolio?

Post by AltaRed »

They don't reconcile it I suspect because they are talking about large cap blue chip stocks to begin with. CSH surely cannot be a core holding in a portfolio while BAM would likely be. None of the gurus would own a CSH to begin with, never mind talk about it. We are talking about Americans that would own a MMM, JNJ, HD, etc as part of their 15-25 core stock holdings at 2-5% portfolio weighting.

In Canada, it would be those within the top 40 or so of the TSX60 diversified among sectors. After all, XIU and XIC essentially march lock step, as does the S&P500 vs total market in the USA. Even the DJ30 marches pretty close to the S&P500.
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Re: How Many Stocks In A Portfolio?

Post by LAJ »

I wasn't being specific to any person, theory or any particular stock. If one is going to state a certain number of stocks (20-30 as an example) meets the requirements of diversification in general, would it not behoove one to consider that one stock (I used BAM as an example only) could on its own offer a large degree of diversification over a stock that was more focused (I used CSH as an example only).

Perhaps I misconstrued the thread.
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Re: How Many Stocks In A Portfolio?

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The trouble is you are comparing a small cap (in your example) that should be very focused on a thin slice of the economy, with a large(er) cap BAM.... which by definition should have a broader footprint, including international. One diversifies by having 15-25 large cap stocks in one's core portfolio. Anything outside the Cdn top 60 or 100 by market cap (depending on one's POV) is playing on the fringes and only really satisfies one's personal 'fun' button. Not that playing on the fringes does not have merit but it is more likely to be a personal objective to potentially juice one's returns slightly, or have bragging rights on a 10 bagger, or..... (whatever it is).
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Re: How Many Stocks In A Portfolio?

Post by LAJ »

I guess I have misconstrued the concept and the thread direction then. I don't recall anyone limiting stocks in a diversified portfolio to "large cap" stocks. I guess that reinforces my admitting to be an un-sophisticated investor. I also apologize for not being able to explain my use of BAM and CSH as a "type" of stock (already widely diversified versus focused) rather than the specific stock.
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Re: How Many Stocks In A Portfolio?

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No need for any apologies. The discussion is a good one and highly relevant. What I was trying to say is the respected gurus who undertake studies and write papers on stock diversification are NOT thinking of portfolios containing fringe stocks. No one, for example, would have their investable net worth in 10 small cap stocks diversified amongst sectors.

If you had 20 equal weight stocks in a portfolio and one of them was a small cap such as CSH.UN, can you really say you are diversified into the real estate sector? CSH.UN may well be gone next month (bought out or made a fatal management decision), while BAM is simply too large a super tanker to suffer a sudden fatal flaw.

Companies like CSH.UN and ALA and such are not predictable in their direction for a core holding.
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Re: How Many Stocks In A Portfolio?

Post by Peculiar_Investor »

AltaRed wrote: 30 Nov 2017 12:55 One diversifies by having 15-25 large cap stocks in one's core portfolio. Anything outside the Cdn top 60 or 100 by market cap (depending on one's POV) is playing on the fringes and only really satisfies one's personal 'fun' button.
I would beg to differ on that point. To the best of my memory, none of the studies/essays that I've read about how many stocks to hold in a portfolio make mention that the selection universe is only large cap.

I would argue that limiting one's choices in Canada to just the S&P/TSX 60 would be a poor choice due to sector concentration. The Canadian equity broad-based indices are notorious concentrated in three sectors, Financials, Energy and Materials.

If one is determining their investment policy statement and how many stocks to own in their portfolio and limits their Canadian equity selection to just a subset of the S&P/TSX 60, then why bother, just purchase the lowest cost ETF that tracks this index and be done with it. Anything else ultimately is just closest indexing in my viewpoint.
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Re: How Many Stocks In A Portfolio?

Post by AltaRed »

I come back to this link in the first post https://tradingeconomics.com/canada/stock-market. In a 20 stock portfolio, I wouldn't bet on a niche stock being a reliable 5% component of that portfolio. Perhaps the term large cap is not the right characterization BUT it would typically be a stock whose market presence is well understood, has had a track record of fairly consistent performance and has not derailed off-road from the main highway.

I would also suggest one can cover market sectors in Canada quite well from the top 100. There are a few exceptions, e.g. health, but that can be covered with a multi-national traded on the NYSE.
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Re: How Many Stocks In A Portfolio?

Post by bpither »

I like the conclusion in article #1 - "
We're all ignorant; some of us just don't realize it yet.
and here's my take after over 30 years of investing. I own 20 dividend growth stocks, "the best of the best" - hopefully - in most sectors. I own a tiny position in one well diversified resource company - Shell - which had a frightening drop over the past couple of years due to variable earnings on oil and debt accrued by buying British Gas but has since rebounded because of the determined effort by management to cut costs and embrace the future ... they've become more a natural gas than oil company in upstream earnings while downstream highly profitable (which saved the dividend) and just bought a large number of EV charging stations in Europe. The present CEO is driving, or announced his next purchase as, an electric vehicle. Imagine your CEO of a resource major driving his E car to work every day. That gives focus on the horizon.

It may be a digression but it's not really. Management is key and when they bungle something and try to hide it, or else defend an indefensible position then you know you own a dog. If 90% of companies in one of your diversified sectors are of that category then you're in trouble if they're wrapped in an EFT or mutual fund - which is why I buy individual securities. Lots of our posters would disagree and that's fine but I like the feeling that if I blow that single purchase then it's because no matter how beautiful my thesis looks on paper in practice it ain't gonna wash. I'll learn from that. I can't learn from an security that has 200 moving parts for the sake of "diversity" And, more importantly to my frugal self, I don't pay a cent to anybody other than $10 a trade. My heirs can pay the capital gains. I've been mostly right, which is about as good as we can do over the long haul.

How does one know anything about markets? Stephen Jarislowsky, who is now over 90, would study a company's earnings for three years when he first started to purchase stocks according to an interview with him online. Once he buys he holds, and not always to his benefit - Manulife really stuck in his craw 9 years back during their cock up - while he's owned Abbott Labs ( and after their split into two companies) for over 60 years. Everyone should read his "The Investment Zoo" before embracing the diversification mantra of others. Patience and temperament are essential in any model portfolio and his life is an extraordinary testament to that.

Understand that good companies can go bad or endure a bad patch, the latter personally exemplified by Trans Canada or Telus 20 years ago, or even Enbridge from the mid 80's to the mid 90's, or our banks which in the early 80's were technically bankrupt due to their high exposure to Latin American debt.

So ... in conclusion I own JNJ, Shell, CN Rail, ENB, BCE, TD, PWF, BIP, Telus, TRP, EMA, FTS and a few others but you get the picture. They're mostly well managed large caps with rising dividends which is a beautiful thing. In addition I'm 18% cash waiting for an opportunity. I've bought little since 2009 except when topping up our TFSA's every year with a little something. I do not own Gold, BitCoin, Amazon, Apple, Facebook and I don't really care. I don't pay attention to interest rates either unless of course it means more/less lolly for my cash position. Capital appreciation is slow going but "boring is good" whereas the growing tax efficient income is a great underpinning supplement to my pension which doesn't go anywhere.
Last edited by bpither on 30 Nov 2017 17:56, edited 2 times in total.
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Re: How Many Stocks In A Portfolio?

Post by Peculiar_Investor »

AltaRed wrote: 30 Nov 2017 14:04 In a 20 stock portfolio, I wouldn't bet on a niche stock being a reliable 5% component of that portfolio. Perhaps the term large cap is not the right characterization BUT it would typically be a stock whose market presence is well understood, has had a track record of fairly consistent performance and has not derailed off-road from the main highway.
But theoretically that is the whole point, there are no specific limitations stated on the selection universe. I am going to step back to what I believe might be the first principles of this topic. In Ben Graham's book The Intelligent Investor he addresses the issue of how many stocks in a portfolio. I have the Fourth Revised Edition ©1973, on page 54:
Ben Graham wrote:Rules for the Common-Stock Component

The selection of common stocks for the portfolio of the defensive investor should be a relatively simple matter. Here we would suggest four rules to be followed:
  1. There should be adequate though not excessive diversification. This might mean a minimum of ten different issuers and a maximum of about thirty
Although I'm quoting from the Fourth Revised Edition, I believe has been part of book since 1949.

Granted, it must be remembered that Ben Graham was a value investor who ended up buying very poor quality stocks, leading none other than Warren Buffett to label the practice 'cigar butt investing'.

Many academics and researchers have examined this topic, which lead to my posting of
Peculiar_Investor wrote: 30 Nov 2017 08:27 As a counterpoint to the Seeking Alpha articles and as some further background, William Bernstein's The 15-Stock Diversification Myth
William Bernstein wrote:One of the most dangerous investment chestnuts is the idea that you can successfully diversify your portfolio with a relatively small number of stocks, the magic number usually being about 15. For example, Ben Graham, in The Intelligent Investor, suggests that adequate diversification can be obtained with 10 to 30 names. In a classic piece in Journal of Finance in 1968, Evans and Archer found that portfolios with as few as 10 securities had risk, measured as standard deviation, virtually identical to that of the market. Over the decades, the "15-stock diversification solution" has become enshrined in various texts and monographs, most famously in A Random Walk Down Wall Street:
  • By the time the portfolio contains close to 20 equal-sized and well-diversified issues, the total risk (standard deviation of returns) of the portfolio is reduced by 70 percent. Further increase in the number of holdings does not produce any significant further risk reduction.
However, the kicker is Bernstein's conclusion,
William Bernstein wrote:So, yes, Virginia, you can eliminate nonsytematic portfolio risk, as defined by Modern Portfolio Theory, with a relatively few stocks. It’s just that nonsystematic risk is only a small part of the puzzle. Fifteen stocks is not enough. Thirty is not enough. Even 200 is not enough. The only way to truly minimize the risks of stock ownership is by owning the whole market.
William J. Bernstein is a well regarded American financial theorist and neurologist. His research is in the field of modern portfolio theory and he has published books for individual investors who wish to manage their own equity portfolios. I would suggest he's probably more qualified and objective than some of the hedge fund managers that are referenced in the Seeking Alpha articles that originally started this topic.
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Re: How Many Stocks In A Portfolio?

Post by Peculiar_Investor »

Pondering further on this topic, I would suggest that another argument for the individual do-it-yourself investor to consider when choosing their selection universe.

All of the stocks in the S&P/TSX 60 are widely followed and analyzed. Ask yourself what gives you particular insight to select a subset of n issuers from this list? Again I would suggest that if you are stock picking for yourself and are limiting yourself to this selection universe, then just buy an ETF that tracks this index.

Graham, and others, have written that between 10 and 30 issuers should provide adequate diversification. And yes I did post that Bernstein disagrees. But I've always worked with the principle that if you are doing an appropriate amount of due diligence before selecting the issuers, then your selection universe should be wide.

Over the years many of my best performing holdings have come from smaller, well managed companies that were not on the radar screens of many analysts and definitely not part of the S&P/TSX major indices. But that is the whole point of how many stocks to own in a portfolio, the diversification will make up for the fact that some will be multi-baggers, most will be average and some will be duds.

Of course, YMMV and I also stated above ...
Peculiar_Investor wrote: 30 Nov 2017 08:27 If I were starting my investing career over, and as I have advised my children, buying a broad-based index (i.e. owning the whole market) for each asset class, at as low as cost as possible is highly likely to be the best approach, particularly since it involves little ongoing effort and maintenance other than periodic rebalancing.
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Re: How Many Stocks In A Portfolio?

Post by DenisD »

Peculiar_Investor wrote: 30 Nov 2017 15:42 Ask yourself what gives you particular insight to select a subset of n issuers from this list?
I don't have any particular insight. But my algorithm appears to for the past 17 years with real money.
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Re: How Many Stocks In A Portfolio?

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Graham, and others, have written that between 10 and 30 issuers should provide adequate diversification
Provide adequate diversification compared to what - the US market, World markets?

If XIU is 60 and DIA is 30 I like 45 as a nice round number.
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Re: How Many Stocks In A Portfolio?

Post by Shakespeare »

I'm too lazy to look it up, but Bernstein has pointed out that much of the total return comes from new giants - IBM, Apple, etc. - and if you have only a few stocks, you will likely miss them.

Again, that applies mainly to the US, not small countries like Canada, which can not support giants. So I own VT in addition to 15 or so Canadian stocks.
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Re: How Many Stocks In A Portfolio?

Post by AltaRed »

I 'broad index' ex-Canada too... so my posts have really only been about the Canadian market only. There is no way I am going to second guess big markets like the USA and Europe.
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Re: How Many Stocks In A Portfolio?

Post by Park »

I have a lot of respect for William Bernstein, and have read a good majority of his books. I also have no problem with someone investing using a market cap indexing strategy. IMO, that should be the default strategy for all. Think carefully and long before deciding to choose another strategy.

The following though is from an article by Rick Ferri, an indexing advocate, in Forbes. He's quoting work done by Research Affiliates.

https://www.forbes.com/sites/rickferri/ ... 4cd1df630a

"the company randomly selected 100 portfolios containing 30 stocks from a 1,000 stock universe. They repeated this processes every year, from 1964 to 2010, and tracked the results

"on average, 98 of the 100 portfolios beat the 1,000 stock capitalization weighted stock universe each year"

the average portfolio "outperformed the index by an average of 1.7 percent per year since 1964"

"From 1964 to 2011, the annualized return for the 1,000 stocks used by Research Affiliates was 9.7 percent. The 30 largest companies in the 1000 made up about 40 percent of the capitalization weight, but their return was only 8.6 percent annually. The other 970 stocks made up 60 percent by capitalization weight and their return was 10.5 percent annually. That’s a 0.8 percent per year premium return for smaller stocks over the 1,000 stock universe and a 1.9 percent premium return over the largest stocks. Any portfolio of 30 stocks randomly selected from the list of 1,000 stocks is bound to include mostly smaller companies."

"the 30 stocks in the portfolio were equally weighted. This technique reduced the average market cap relative to the cap weighted index and helped boost the return. In addition, equal weighting “tilted” the portfolio toward value stocks, which earned a higher return than growth stocks over the 1964 to 2011 period."

Market cap weighting results in owning somewhat more of the overpriced stocks and somewhat less of the underpriced stocks. Equal weighting removes that tendency to owning overpriced stocks, so the contribution of overpriced and underpriced stocks to the portfolio is similar.

There would be increased transaction costs and taxes. If it's from the largest 1000 US stock (that's unstated), the transaction costs wouldn't be too high.

But the important point is that a random 30 equal weighted stock portfolio turned over every year beat the market on average by 1.7% on a precost basis. That's due to a tilt towards small and value.

William Bernstein did something similar.

http://www.efficientfrontier.com/ef/900/15st.htm

From the 500 stocks of the S&P500 on 11/30/99, he created 98 random equally-weighted 15-stock portfolios for the 12/89-11/99 10-year holding period. 75% of the portfolios failed to beat the market.

From what I can see, those 15 stock portfolio were held for 10 years. There was no yearly rebalancing. That rebalancing is important, when it comes to getting the small premium. After 10 years, each 15 stock portfolio would be somewhat like a very small market cap portfolio. The tendency to own more of the overpriced and less of the underpriced would be more of an issue, compared to a portfolio turned over every year.
Last edited by Park on 30 Nov 2017 18:45, edited 1 time in total.
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Re: How Many Stocks In A Portfolio?

Post by deaddog »

I look at it this way: Holding a large number of stocks in your portfolio leads to average performance. Since only 3 or 4 will produce big gains the remaining stocks drag the performance down.

If you want to have different results than everyone else you have to do things differently.
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Re: How Many Stocks In A Portfolio?

Post by AltaRed »

deaddog wrote: 30 Nov 2017 18:43 I look at it this way: Holding a large number of stocks in your portfolio leads to average performance. Since only 3 or 4 will produce big gains the remaining stocks drag the performance down.

If you want to have different results than everyone else you have to do things differently.
One can have different results in each direction if 3 or 4 of them produce big losses.....yes, yes, I know. Use stops.
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Re: How Many Stocks In A Portfolio?

Post by Park »

In a low EBIT/EV portfolio, 12 stocks might/might not be enough to bring volatility down.

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