If you listen to Warren Buffett, one of the best and most famous investors in the world you should skip picking stocks and instead invest in a low cost, low fee broadly based index fund. I’ll take that one step further. You should also do it yourself without the help of a financial advisor who is going to charge fees. Keep things simple, invest in index funds.
This simple advice is what I share with friends, family, and readers of my blog and newsletter. Don’t get fancy, invest in index funds for the long term. It’s true and that’s what I do with over 90% of my investment portfolio. I preach and follow my own advice. Something that is very uncommon in today’s world, especially if you use social media or a Reddit forum.
A little gamble in me
I’m a gambler at heart and not too many years ago you could find me playing poker online and in a brick and mortar casino to the tune of what would most consider full-time job hours. I would enjoy not only playing poker but also black jack and did everything in my power to stay away from craps for fear of getting addicted to the gamble even more.
My gambling even had me dabbling in sports betting. Making ridiculous bets with friends about trivial facts. Placing golf bets against players in my group based on my own skill (I’m not a good golf golfer). Plus fantasy football, NFL pick’em winners, and probably a whole list of things I’m missing. I liked to gamble for the entertainment factor, the thrill of beating the house or the expert, and the highs and lows of winning and losing.
I’ve since learned that gambling is not where I should spend my time, energy, and money. But the gamble is still there. Rather than spending countless hours at a poker table or risking my money to a game of chance I have chosen to channel my gamble to the rest of my portfolio.
My soapbox disclaimer
Before I go on I want to make something very clear. In the game of personal finance I am ahead of the game or at the very least on the right path. Here’s what my financials look like:
- No personal or mortgage debt
- Emergency fund that allows me to sleep at night
- Good retirement nest egg
- Savings for the fun stuff in life
While investing is exciting and many know the benefits of doing so, just as many people try to “cheat” and invest small amounts of money when they have large amounts of debt, not much money saved, and close to nothing in retirement savings. Investing a few dollars a month in Acorns is great for the psyche but I propose paying off your credit card would be a better use of your energy and money.
For those reading this and thinking some of this resemble themselves, I would get back to the building blocks of personal finance however unsexy it is and come back after you have laid the groundwork to invest with larger amounts of money not related to your retirement.
The gamble in my portfolio
I have allowed myself to invest up to 10% of my portfolio in individual stocks of my choosing. If I have a 1 million dollar portfolio I allow myself to accumulate up to $100,000 of individual stocks. If I want to buy shares of Nike stock (NKE) that’s totally fine, but the value cannot exceed $100,000 if that’s the case one of two things need to happen.
- Increase my investments in index funds
- Decrease my investments in individual stocks
I haven’t had that scenario happen as of yet, but my individual stock purchasing is relatively new. At the time of this writing I’m in the 6-7 percent range.
Does my individual stock gamble move the needle?
So it’s incredibly important to point out the fact that these individual stocks don’t move the needle as much as one would think.
Example:
- If my index funds are $900,000 and go up 10% for the year this would leave me with a total of $990,000. Pretty great right.
- Then let’s say my $100,000 in individual stocks crashed and burned losing 50% and moved all the way down to $50,000. Total bummer.
- But how did I do for the year? Well my 1 million is now $1,040,000 which is an overall gain of 4%.
Not bad considering I lost half of my money picking individual stocks. If I had invested in only index funds in this scenario I would have gained a total of $100,000 or $60,000 better than the gains in this scenario. So while I lost 50% of my individual stock portfolio and $50,000 in this scenario I actually gained $40,000 or 4% for the year.
An unlikely scenario
It’s important to note that this scenario is pretty unlikely as the index fund and individual stocks as I will discuss later are most likely currently in my portfolio already. This would cause a pretty close correlation to the actual return of the index fund. Unless for some reason this stock wasn’t present in any of my index funds or if the entire $100,000 was distributed in 1 or 2 stocks.
There are certainly worse scenarios that could happen like the index fund losing 20% and my individual stocks losing 40%, a total loss of 22% ($720,000+$60,000). there are also best case scenarios like index funds increasing by 10% and the individual stocks increasing by 30% for a total gain of $120,000 or 12%.
Goals and Measurements
My goal with investing in individual stocks is pretty simple.
- Have fun
- Beat the S & P by 2% every year
- Never lose money, haha
2020 Returns courtesy of Personal CapitalLast year I was able to beat the S&P 500 by more than 2% and even the US Stock market by that amount as well which surprised me a little. Interestingly enough our Vanguard account which houses the majority of our taxable brokerage portfolio was right at 19% for 2020. Although to be fair this account has a mix of stock and bond index funds (CPAs and tax professionals are probably cursing my name because of my bonds being held in a taxable account).
Individual Stocks + More of Your Favorites
Since over 90% of my portfolio is made up of index funds like Vanguard’s VOO,VTSAX, and VUG. I tend to have a pretty large portion of my portfolio in the biggest companies on the planet:
- Apple
- Microsoft
- Amazon
- Google
- Facebook
When I then decide to buy more of Nike stock (NKE) for example I’m really just increasing my Nike holdings in that particular index fund. Based on the most recent portfolio holdings, Nike makes up 0.53% of the overall portfolio of Vanguard 500 Index Fund ETF (VOO), then I am simply choosing to increase the percentage. I’ll use an example to illustrate.
Making small bets
If 25% of my portfolio is made up of VOO and I have a 1 million dollar portfolio then I would own $250,000 of VOO. Since VOO owns 0.53% of Nike stock then I would own NKE to the amount of $1,325. If none of the other index funds of my remaining $750,000 owned any Nike stock that would mean I would have an even smaller percentage owned.
More than likely the percentages are about the same with VTSAX and VUG so of my 1 million dollar portfolio I would own 0.53% or $5,300.
Buying more shares of Nike stock isn’t really as much purchasing individual stocks, but rather increasing the amount of Nike I hold in my portfolio compared to the other 500-3640 stocks that make up my portfolio. What I have decided to do is increase my allocation in some of my favorite stocks like recent Nike (NKE) for example.
Using the same numbers from above if I decided to buy $10,000 worth of NKE in addition to my index fund investment in VOO then my overall portfolio allocation to Nike would be $15,300 or 1.53% of my 1 million dollar portfolio. Not a huge change in allocation but definitely an increase. I’m not really trying to hit a home run with my Nike stock purchase. Instead I’m placing a small bet that Nike will perform better than the majority of stocks in the index fund.
Right between Tesla and Berkshire
As of this writing the VOO allocation ranking in terms of allocation amount to Nike currently has a 39th place ranking or 0.53%. If however we used the example from above and increased the allocation to 1.53% this would change the rankings. Nike would instead be wedged between Tesla at 1.97% and Berkshire Hathaway at 1.39% and have a 7th place allocation ranking. Of course this is all subject to change based on the market, share value, etc.
Quick Summary
Investing in individual stocks can be outright dangerous. Consider the ups and downs of the market let alone one company. Possibly riding momentum plays rather than fundamentals of a company. Even searching for the stock or crypto currency that’s going to cure years of not investing or the fear of missing out (FOMO).
Personally I invest in index funds. However for me it’s an exciting adventure into owning individual companies and really placing small investments on companies I believe in and follow. But the end result is I invest in index funds for over 90% of my portfolio and place small bets on increasing the allocation in certain companies with individual stock purchases.
Do you invest in individual stocks? Do you invest in index funds?
